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Business News/ Markets / Mark To Market/  Markets pin hopes on budget, but big-bang stimulus is in doubt
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Markets pin hopes on budget, but big-bang stimulus is in doubt

The fact that markets are near all-time highs means that hopes are high too
  • Hopes from the government are even higher this time around, given that the Reserve Bank has paused cutting interest rates
  • Nirmala Sitharaman presents the budget at a time when economic growth has slowed to 4.5% (Photo: Pradeep Gaur/Mint)Premium
    Nirmala Sitharaman presents the budget at a time when economic growth has slowed to 4.5% (Photo: Pradeep Gaur/Mint)

    Mumbai: With the economy sputtering along, with a mere 4.5% growth in gross domestic product (GDP) in the second quarter, the National Democratic Alliance government’s first year of its second term in office is ending in poor light. Lately, with inflation also quickening, there is a worry that the Indian economy may be headed for stagflation.

    Clearly, the finance minister has her task cut out. The fact that markets are near all-time highs means that hopes are high too. “The markets hope that India’s budget will bury the macro gloom with a magical fiscal stimulus," wrote analysts at Jefferies India Pvt. Ltd in a pre-budget note to its clients.

    “Magical" is an apt word. The government’s tax collections are falling short, while other receipts such as through divestments have failed to provide enough resources to tide over the deficit in public finances. Besides, last September’s corporate tax rate cut would add to the fiscal stress. Against this backdrop, it is difficult to see where the funds needed for a fiscal boost will come from. “Given the tight fiscal space, we doubt many big-bang announcements could be made," analysts at Emkay Global Financial Services said in a note to clients.

    “Some expansion in the fiscal deficit is a given at this point, but kick-starting growth in a big way will require a stimulus of at least 100 basis points on the fiscal side," said an economist on condition of anonymity. Hardly anyone is expecting such a large stimulus given an already high deviation from the fiscal deficit targets set for the government this year. “The fiscal accounts are in disarray, with the central government deficit set to miss the 3.34% of GDP target by around 100 basis points," said analysts at Jefferies.

    There has been considerable talk about the government looking to boost the spending power of consumers through cuts in tax rates for individuals.

    In fact, the clamour for a cut in direct taxes has increased considerably as it would straightaway add to the spending potential of taxpayers.

    (Graphic: Naveen Kumar Saini/Mint)
    View Full Image
    (Graphic: Naveen Kumar Saini/Mint)

    A direct tax cut along the lines of the recommendations of the direct tax code could release about 1 trillion into the pockets of Indian consumers next year, according to some experts.

    But given the government’s tight finances, analysts see the budget only tinkering with tax slabs and providing relief to those in the lower slabs. High taxes on the rich may hold as they might prefer to save than spend. Besides, direct taxes account for just about 2.5% of GDP.

    Analysts at Kotak Institutional Equities cautioned that “tax cuts can work in unintended ways. It is possible that households may simply increase savings rather than increase consumption, which would nullify the government’s efforts to boost aggregate demand; they may be deeply concerned about current economic conditions and the possibility of higher taxes in the future".

    Cutting taxes would also mean the government forgoes substantial sums in taxes, which means cutting down government spending. Hence, this exercise may not bear the desired results.

    “The tax cut will only benefit about 3.5% of the population, which also might not directly result in improving consumption expenditure as some of it could go into savings," said the economist cited earlier. “It’s unlikely that the government will undertake such an expensive exercise for such a small effect on the economy," he added.

    Some of the measures being seen as aiding spending could be directed to the housing sector. While the government has always incentivized affordable housing, a larger section of the market may need some tax incentives.

    “A more direct benefit could be handed out to sectors such as real estate, which are under stress," said Rahul Singh, chief investment officer (equities) at Tata Mutual Fund. “It could improve credit flow in one of the most distressed parts of the economy, which would help improve economic sentiment."

    Analysts at Kotak added that “a modest stimulus to housing could boost both aggregate demand and aggregate supply, given the real estate sector’s large links to the rest of the economy".

    Besides, the equity markets are looking at concessions for medium-to-small enterprises to stimulate investments. Although this may not directly boost consumption, markets see it as supporting employment generation, which would have a bearing on consumption demand gradually.

    Hopes from the government are even higher this time around, given that the Reserve Bank of India has paused cutting interest rates in the light of higher inflation.

    Whether the government bites the bullet and stimulates consumption or walks the soft but conservative path will determine how rapidly growth can rebound.

    Pallavi Pengonda contributed to this story.

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    Published: 26 Jan 2020, 11:38 PM IST
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