India Fixed Income Research

Budget

000

PRE BUDGET EXPECTATION 2011-12

Key expectations from Budget FY12
Focus on fiscal consolidation; subsidies burden concern ahead
Edelweiss Fixed Income Research February 23, 2011

FY11 deficit likely to be at 4.72% of GDP One off gains to cushion FY11 deficit as government spending gathers pace in March

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Government net borrowing for FY12 likely to be INR 3854bn compared to 3350bn for FY11. Borrowing program likely to be front loaded with 65% of the borrowing to be completed in H1FY12

Government to announce a fiscal deficit close to the medium term target of 4.80% of GDP for FY12, however the under provision for the fuel subsidies may lead to a slippage pushing the ratio to 5.10% - 5.20% of GDP

Our expectation of the fiscal deficit to be INR 4280bn in FY12 in absolute terms and 4.69% of GDP

Service tax net expansion and reduction in CST exemptions could continue to support the tax buoyancy

Non tax revenue to shrink while disinvestment related receipts could be close to FY11 levels

Non plan expenditure likely to remain a drag on account of the high subsidy bill. Food security bill and rising commodity prices could push the subsidy outflow to as high as INR 2000bn in FY12 compared to INR 1700bn in FY11.

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Focus on fiscal consolidation; subsidies biggest concern ahead Tax revenue collection to remain buoyant, one off advantage fades off
We expect total revenue receipt to grow at 6.50% only in FY12 due to the significant lower non tax revenues in FY12 versus FY11. Non tax revenues contributed about 28% of the total revenues in FY11 mainly on account of the one off gain of INR 1.06trn from the 3G/BWA license fees. Since these gains will not recur in FY12 the total revenue receipt is expected to grow at a meager pace. We expect the corporate tax collection to grow at 17.50% (slightly higher than the expected growth in profits for the Indian Corporate) while we have projected the growth in the income tax to be in line with the nominal GDP growth rate of 15%. We expect the government to make attempts to widen the service tax net. However, we note that most of the large service sectors that can be easily taxed have already been brought under the purview of the service tax. The service sector largely operates on cash and it is imperative for the government to introduce GST or tap into unaccounted money if it has to tax the biggest portion of Indias GDP. The share of service tax in total taxes still remains minuscule We assume an increase in the median rate of excise duty to 12% from the current rate of 10%. Industry lobbies have argued for a stable rate at a time of slowdown in the economy. However, we are not sure how the government will generate additional revenues to meet higher expenditure on social welfare and likely very high subsidies. The government may also have to cut excise duties on gasoline and diesel to curb subsidy losses (although the net impact is the same given foregone revenues)

Disinvestment related receipts likely to be close to FY11 levels

We target a disinvestment mop-up of INR 400bn although this remains contingent on the state of the domestic financial market. If local equity markets continue to remain volatile, the slippage to our FY12 fiscal deficit could be high. At least 8-9 PSUs have been identified for disinvestment in FY12 including IOC, MMTC and PFC. While there is some indication that the INR 130bn ONGC FPO could go through this fiscal, delay in the subsidy payout by the government could dampen valuations and push the offer to the next fiscal

Expenditure to see moderation, non planned expenditure continues drag

We note that the government has very little control on expenditure items such as interest payment (already at 30% of revenue receipts based on FY2011E data), defense and salaries. It has already cut capital expenditure significantly over the years. Due to political compulsions, it is unlikely to cut expenditure on subsidiesthe only area where the government can make cuts if it has the political nerve to do so. However, we do not expect this to be the case in the current political system Social welfare expenditure. We do not expect allocations under the MGNREGA to increase dramatically despite the likely indexation of wages to CPI-AL and an increase in the minimum hours worked. This is because there are adequate indications that the full amounts allotted to this program under this scheme of FY2011 may not have been utilized

Fiscal deficit target for FY11 successful; inflation distorts the number
Upward revision of the GDP base (GDP for FY11 is likely to be INR 78,604bn against INR 69,347bn assumed in the budget) should help fiscal ratios is likely to push the fiscal deficit for FY11 to 4.72% of GDP against a budget target of 5.50%. Although the denominator effect will continue to help in FY12, the absolute level of deficit is actually likely to be higher than the initial projections. Since there is no one-off revenue gains such as the 3G and broadband auction in FY11 (1.3% of GDP), the absolute level of deficit in FY12 could be much higher. Non tax revenue contributed 28.50% of the total revenue receipt in FY11, We have projected a deficit number of INR 4280bn in FY12 compared to INR 3714bn in FY11. However under provision for fuel subsidies may lead to slippage pushing the ratio to 5.10% - 5.20% of GDP
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INR Bn 1. Receipt (2d + 3) 2. Gross tax revenue (a+b) 2a. Direct Tax i. Income tax ii. Corporate tax iii. Other tax 2b. Indirect Tax i. Custom duties ii. Excise duties iii. Service tax 2c. (States' share in tax revenue) 2d. Net tax revenue 3. Non-tax revenue 4. Capital Receipts (net) 4a. (of which) Disinvestment Total Receipts (1+4) 6. Non-plan expenditure (a+b) 6a. Revenue expenditure i. Interest payments ii. Expenditure on defence iii. Subsidies outgo Fuel Fertilisers Food Security Bill iv. Other non-plan revenue expenditure 6b. Non-plan capital expenditure 7. Plan expenditure 8. Total Expenditure (6+7) Other Borrowing & Liabilities Net market borrowings Gross market borrowings Repayment of domestic market borrowings Fiscal Debt Financing Primary deficit GDP YoY Growth GDP Fiscal Deficit as % of GDP
RE denotes revised estimates, BE denotes budget estimates

FY09A 5,402 6,053 3,359 1,206 2,134 19 2,694 999 1,086 609 1,620 4,433 969 68 6 5,470 6,088 5,591 1,922 733 1,298 94 766 438 1,638 497 2,752 8,840 1,033 2,336 2,730 394 3,370 1,448 55,826

FY10RE 5,773 6,331 3,887 1,250 2,551 86 2,445 845 1,020 580 1,680 4,651 1,122 245 260 6,018 7,063 6,419 2,195 884 1,310 220 530 560 2,030 644 3,152 10,215 211 3,984 4,510 526 4,197 2,002 65,503 17.51%

FY11BE 6,822 7,467 4,317 1,206 3,013 98 3,150 1,150 1,320 680 2,126 5,341 1,481 456 400 7,279 7,358 6,437 2,487 873 1,163 107 500 556 1,914 921 3,731 11,089 360 3,450 4,571 1,121 3,810 1,323 78,604 20.00% 4.85%

FY11E 7,838 7,841 4,471 1,373 3,002 96 3,370 1,322 1,355 693 2,235 5,606 2,232 446 346 8,284 8,018 6,931 2,487 873 1,717 427 650 640 1,854 1,087 3,980 11,998 364 3,350 4,471 1,121 3,714 1,227 78,604 20.00% 4.72%

FY12E 7,874 9,369 5,242 1,579 3,541 122 4,127 1,520 1,789 818 2,623 6,746 1,129 462 400 8,336 8,139 7,172 2,686 917 1,560 120 700 740 2,009 967 4,477 12,616 426 3,854 4,589 735 4,280 1,594 91,181 16.00% 4.69%

6.04%

6.41%

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Ajay Manglunia

Head

Corporate Debt Desk

ajay.manglunia@edelcap.com

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