Budget 2020: Was the market expecting too much?

Published: February 4, 2020 4:00:37 AM

Investors now have to revert to focusing on top down Fed-driven global liquidity/risk appetite trends and bottom up PAT numbers

Indian GDP growth should improve on base effects, monetary stimulus and auto sales recovery.Budget 2020-21: Indian GDP growth should improve on base effects, monetary stimulus and auto sales recovery.

By Sanjay Mookim, Nafeesa Gupta & Shikha Gupta

Union Budget 2020 India: The FM restricted deficits to 3.8/3.5% for FY20/21 in her announcement on Saturday, largely in line with our expectations. Yet, the Nifty fell close to 2.5% for the day as equity market expectations of a significant growth push-through either a) major tax cuts (individual, capital gains), or b) real estate stimulus did not come through. To be fair, the govt did provide some tax relief to individuals with incomes below Rs 15 lakh, but that is limited in size and comes at a cost (the sacrifice of existing tax exemptions). Dividend distribution taxes have been moved from the company to the recipient (Dividend taxes will consequently increase for individuals with income more than Rs 10 lakh). We think the disappointment with the budget will last a short while, post which MSCI India should continue to move with EM. The recent mid-cap excitement could lose steam though. Indian GDP growth should improve on base effects, monetary stimulus and auto sales recovery.

Investors now have to revert to focusing on top down Fed-driven global liquidity/risk appetite trends and bottom up PAT numbers. The budget talks of some credit support for NBFCs (details awaited) and increases deposit insurance (increase confidence in small banks). Removal of investment exemptions could hurt insurance companies. Higher cigarette taxes could dampen volume growth for the sector. A large divestment target could retain pressure on PSU stocks (with the govt. now targeting Rs 90,000 crore from sale of ‘Public Sector Banks and Financial Institutions’ (including a proposed IPO of LIC). The extension of tax breaks on affordable housing should not affect demand trends. The budget has added 1% TDS on e commerce transactions; and changed NRI criteria.

The Finance minister presented the Union Budget for FY21 in Parliament on February 1. Equity markets seem to have been expecting significant measures from the government in an attempt to support a flagging economy. There were hopes of a significant relief for real estate and major income tax cuts. Markets were possibly also projecting their desires on the govt.-by expecting relief from long term capital gains tax and dividend distribution tax. A lack of any such measures led to a significant correction in Indian equity markets on Saturday (markets were open for the budget). FY20 Revised estimates may need to be revised still.

The govt faced a severe resource constraint in FY20, with weak nominal GDP growth compounded by a large corporate tax cut in September 2019. Unfortunately, the govt does not seem to have fully acknowledged these in the revised estimates it presented for FY20. Revenue forecasts for the year still build in 19% YoY growth over FY19, even though actual collection growth for the first nine months is only 5.7%. In addition, the govt has forecast disinvestment revenue of Rs 65,000 crore for the year, while it has collected only Rs 27,000 crore so far. Selling Rs 38,000 crore of stock in the remaining two months might be challenging.

Concern on near term FY20 revenue forecasts suggests a) FY20 expenditure forecasts are also unlikely to be met and b) FY21 revenue/expenditure numbers are more aggressive than they appear on headline. FY21 revenue forecasts imply a 14% CAGR over FY19 actuals-which might be a little aggressive in nominal GDP growth of 7.5-10% and with the drag of a large corporate tax reduction. On headline, the govt has projected a 9% YoY revenue growth for FY21, and a 13% increase in spending.

This gap is bridged by a very aggressive disinvestment forecast for next year-at a massive Rs 2.1 lakh crore. This is further divided into Rs 1.2 lakh crore in ‘regular’ disinvestment and a Rs 90,000 crore in realisation from sale of ‘Public Sector Banks and Financial Institutions’. The budget speech mentions an attempt to list the Life Insurance Corporation of India, which could in part contribute to raising this Rs 90,000 crore.

The govt has forecasted an 18% increase in taxes on Income (other than on corporates) for FY20, even as the actual growth for the first nine months is around 5.1%. Forecasts for Dividends and Profits of almost Rs 2 lakh crore is up 76% YoY, but the govt has already received Rs 1.62 lakh crore by December. The large dividend paid by RBI has helped in FY20 and explains the forecast decline on this account for FY21.

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The govt also seems to have budgeted more than a doubling in its revenues from the telecom industry (under the head – Other Non-Tax Revenues -“Other Communication Services”). This is mainly license fees on account of spectrum usage charges and is forecast to increase from Rs 58.900 crore in FY20 to Rs 1.3 lakh crore in FY21. It is unclear whether the govt is budgeting any receipt of the historical AGR (Adjusted Gross Revenue) linked demands on the incumbent telecom companies; or is simply relying on higher revenues as companies raise tariffs. In any case, these forecasts appear aggressive and could be at risk.

Not all food subsidies are given to the Food Corporation of India (a noticeable amount is sent to states under their procurement schemes). Revised spends forecast for both Food subsidy and Agriculture are below initial estimates for FY20 due to a) lower disbursals under the PM Kisan scheme and b) transfer of FCI funding to off balance sheet borrowing from the National Small Savings Scheme.

The govt has budgeted flat payments for FCI for food subsidies, though the amounts it is to raise from the NSSF are forecast to increase. Interestingly, the govt has budgeted for a decline in MGNREGA payments in FY21. Despite the evident pressure on revenues, there is some selective emphasis: spending on the NHAI, village roads and the Smart City Mission is forecast to grow meaningfully in FY21.

The govt has provided details of Extra Budgetary Borrowings with the current budget. These are essentially bonds that are fully serviced by the govt, or are monies raised from the National Small Savings Fund. In total, these are expected to account for 84 bps of GDP in FY20. Combined recapitalisation bonds for PSU banks, the total amount technically ‘off balance sheet’ for FY20 could be as much as 1.1% of GDP. As there is no more capital injection planned in FY21, total extra budgetary funding is likely to fall to about 83bps of GDP in FY21. While these do not show up in the fiscal deficit, they do count towards the center’s debt to GDP ratios.

The budget announced a reduction in income taxes for taxpayers with annual incomes of less than Rs 15 lakh. Almost 96% of taxpayers in the country fall below this threshold. The proposed reduction in taxes, however, will be available only if the taxpayer forgoes all deductions and exemptions otherwise available. These will include Leave Travel Allowance, House Rent Allowance, Standard Deduction, interest on self-occupied property and deductions under section 80(C).

The govt estimates a revenue loss of Rs 40,000 crore on account of the new tax scheme, though the actual number might be significantly less. Gains from the new scheme are relatively modest for taxpayers with incomes below Rs 10 lakh. Individuals in this category who avail benefit of deductions might opt to continue paying taxes under the old/existing scheme. The relatively modest cut in tax collections means that the stimulatory impact of the measure on consumption is likely to be small.

The government has forecast disinvestment revenues of Rs 2.1 lakh crore for FY21, a relatively large number. The total value of govt’s holdings in all listed PSU (including the banks) is about Rs 10.2 lakh crore. The saleable surplus-down to 51% on each stock-is only `2.1 lakh crore. Realizing Rs 2.1 lakh crore in divestment for FY21, even with the expected listing of the LIC could be very challenging.

The divestment target clearly implies full privatisations of several govt companies. Just the sale of BPCL (the process for which has reportedly begun), will not suffice. There can be several issues in meeting this target: a) the ability of the market to absorb such a large sale, b) the capacity at the disinvestment ministry to manage several simultaneous privatization transactions, c) the complexity of each potential deal, with approvals needed from various stakeholders (not counting any protests against these sales).

Excerpted from Equity Strategy – India, BofA Global Research

Authors are research analysts, DSP Merrill Lynch (India)

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