>Economic Commentary (CLSA)

Although we have been conservative in our expectations for India since late 2007 the shine is now well and truly coming off the growth story. India is now perceived as one of the riskiest markets to be in. Disappointment has mounted. The latest being fiscal which led S&P to downgrade India sovereign debt from stable to negative last month. Tax revenues are crashing, expenditure exploding as the government in a bid to win the elections has given full bridle to its populist urges. We are forecasting that the public sector deficit, already 11% of GDP this fiscal year, will rise to 14% in FY09/10. 10-year bond yields have spiked and the rupee is weakening again. We are not forecasting an Argentine style debt crisis. The bulk of Indian government debt is domestically held and Indian banks are eager buyers of government securities. However not only is the government’s US$500bn infrastructure program on the back burner but the spread between private and public sector borrowing costs has widened, bad news for private investment spending. Meanwhile the cyclical growth slowdown is worsening. Credit growth is slowing. The manufacturing recession is deepening. Job losses are climbing. Non-oil imports are slowing and inflation is falling rapidly belying the underlying weakness of domestic spending. We are forecasting 4.6% GDP growth in FY09/10 and only expect the domestic economy to stabilise in early 2010. We expect the IRs/US$ to see 57 this year and for interest rates to fall by another 150bp from here.

Where do we start? The deluge of bad news out of India has been pretty continuous since the start of the year. If you are disappointed, so are we. In January it was Satyam indiscretions and then Wipro getting banned by World Bank from bidding for any contracts till 2011. But the big whammy was yet to come, the fiscal sledgehammer.

It came with the government announcing in its interim budget that the central government deficit for FY08/09 would come in at 6% of GDP instead of the initially projected 2.5%. FY09/10 budget deficit is projected at 5.5%. No sooner had the official revenue and expenditure targets been set, the government announced 2% each cuts in the excise duty, customs duty and service tax rates for FY08/09 and FY09/10 as a part of a populist fiscal stimulus package to help consumption.

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