>ECONOMY (KOTAK SECURITIES)

Budget FY2010 likely to spur infrastructure investment, go slow on fiscal consolidation

• Budget likely to keep GFD/GDP ratio in 6-6.5% range
• Expanded NREGP, Bharat Nirman likely to sustain stimulus to rural economy
• Infrastructure investments may get a boost through annuity-based schemes, funding of SPVs for financing equity component
• We expect tax cuts to stay, but disinvestment of Rs200 bn can help check deficits

Gross Fiscal Deficit (GFD) likely at 6-6.5% of GDP for FY2010E
We believe the Union budget for FY2010 is likely to peg GFD/GDP ratio in the range of 6-6.5%. Since the budget-making exercise is still at a nascent stage, a clear idea of the fiscal gap is yet to emerge. We believe the government is likely to strive to keep GFD/GDP ratio in 6.0-6.5% band as higher than 6.5% on-budget deficit for the centre could (a) make the path of future fiscal consolidation that much more difficult and (b) be a negative with the financial markets, especially foreign investors and rating agencies. At the same time, a deficit lower than 6% of GDP is seen as hampering growth revival and coming in the way of government spending on rural safety nets.

• GFD/GDP ratio below 6% appears improbable as the UPA government is committed to push its mandate for inclusive growth agenda further by expanding National Rural Employment Guarantee Program (NREGP) and Bharat Nirman Yojana

• A 6-6.5% GFD/GDP is considered possible even with expanded coverage of NREGP with the carry-over of unused allocations from last year’s budget

• A GFD/GDP exceeding 6.5% is seen as risking future consolidation and GOI is keen to find ways for additional resource mobilization, including disinvestment, to check the deficit from spinning out of control. A 7% GFD/GDP ratio is seen as potentially triggering negative reactions from important stakeholders in a globalized economy.

Combined deficit seen at about 10% of GDP
We believe it may be possible to contain the combined deficit of the Centre (including offbudget) and States to 10% of GDP as off-budget deficit could be restrained to about 0.5% of GDP with subsidies reforms. State governments’ deficit, with some prudence, could be contained at about 3% of GDP in FY2010E. We understand that officials consider this wide fiscal gap a legitimate counter-cyclical policy that is being adopted by several countries across the globe. In our assessment, fiscal deficits in India should start correcting from FY2010E at a moderate pace.

Subsidies reforms may be difficult
There appears to be is serious consideration of subsidies reforms, but political constraints may still hamper progress therein. While substantive suggestions for reforms aimed at capping GOI’s subsidy bill have been mooted, whether or not these get reflected in the forthcoming budget is a political call for policy makers. The proposals under consideration could possibly include:

• Capping fertilizer subsidies by capping the amount and fixing subsidy per kg of nutrients
• Deregulating prices of petrol and diesel, while retaining price controls on kerosene and LPG with modest price adjustments
• Making provisions for higher food subsidy bill while aiming at reasonable procurement policy

To see full report: ECONOMY