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Thursday, February 03, 2022

Indian Union Budget

By Century Financial in 'Investment Insights'

Indian Union Budget
India Union Budget

The Union budget released for the fiscal year 2022–23 is Independent India's 75th full budget. Nirmala Sitharaman, the finance minister, presented the fourth Budget of the Modi 2.0 government. The budget is anticipated to establish the groundwork for India's economic expansion and prosperity over the next quarter-century.

Budget Snapshot

The budget for 2022 is critical because India's economy is beginning to recover from the setback caused by the ongoing pandemic. India announced annual spending of half a trillion dollars, a 35 percent increase over the previous year. This may be viewed as a double-edged sword, since heightened government expenditure would certainly stimulate economic growth, but would also add to the already high level of inflation. On the plus side, the government intends to reduce the deficit to 6.4 percent of GDP in FY23, down from 6.9 percent in FY22. By unveiling plans to launch a central bank digital currency, this budget marked a watershed moment in India's digital journey. However, imposing a 30% tax on income from virtual digital assets may pose as a deterrent to investors embracing this new asset class. Bonds in India have taken a beating after the government announced intentions to sell a record amount of bonds in the coming fiscal year to meet the country's borrowing demands. According to estimates, the government intends to issue approximately 15 trillion rupees ($200 billion) in bonds for the fiscal year that begins in April. Aggressive bond sales by the government are negative and could keep G-secs subdued in the future. The rupee has remained stable as India aims for a 9.2 percent GDP growth in the fiscal year 2022-23. Additionally, the implementation of investment initiatives focused on agriculture and transportation is expected to assist the economy recover significantly from the pandemic's aftermath. The government's infrastructure expenditure plans of 200 billion rupees ($2.68 billion) are expected to boost economic development via public investment as Asia's third-largest economy rebounds from a pandemic-induced slowdown.

The Big Deal

One of the major highlights of the Union budget is the announcement to raise government capital expenditure by 35.4 percent to Rs 7.5 trillion. The Capex focus of the government will provide a big boost for the businesses of Indian companies. Additionally, the orders for local defense companies are also going to increase. On defense orders, the government stated that 68 percent of the capital procurement budget would be devoted to the Indian industry in 2022-23, up from 58 percent in 2021-22.

Furthermore, the Government of India is planning to build more than 100 cargo terminals in the subsequent three years, expand highway by 25,000 kilometers, four multi-modal national parks, standardization of metro systems including civil structures, and four pilot projects for setting up coal gasification. The principal beneficiaries of the current budget are companies participating in infrastructure projects such as new roads, highways, and railways. The government's decision to allocate Rs 48,000 crore in Budget under the Pradhan Mantri Awas Yojana (PMAY) and faster approvals for affordable housing in urban areas will benefit real estate developers. The enormous increase in public investment will reinvigorate the corporate investment rate.

Among the policy initiatives, The divestment target for FY23 seems practical. In FY22, there was a vast underperformance regarding the divestment target and what was actually achieved. On the other hand, The FY23 divestment target of Rs 65,000 crore appears achievable, and the government may get to that number by making an offer for sale (OFS) rather than going in for serious stake sales. Also, Climate change has arisen as a significant consideration for policymakers. Finance Minister Nirmala Sitharaman declared that the government would be raising green bonds for mobilising resources for green infrastructure.

Equity Outlook

With a focus on capital spending in order to spur economic growth and employment, the budget for 2022-23 places a clear priority on economic growth. Investing in core sectors with a multiplier effect on GDP, increasing job creation, improving skills, and facilitating digital financial inclusion is what the Union Budget is about.

For the year 2022, Indian equities outperformed their global counterparts in January even as domestic indices fell. This was due to concerns about inflation, stimulus withdrawal, and rate hikes by the U.S. Federal Reserve. While Indian equities have corrected from the peak, they're still outperforming, given a steeper fall in global equities.

After a hiatus of nearly a decade, Indian equities are well-positioned for the next leg of wealth creation. India is likely to be among the leaders in GDP growth for the next decade due to secular earnings growth and structural uptrends, making it a compelling case for creating long-term wealth. Furthermore, the long-term outlook for Indian equities remains positive, thanks to several reform initiatives carried out by the Government and a series of infrastructure-related initiatives lined up in the coming years. Also, unlike the US, India's corporate profit to GDP remains low, and hence in cycle terms, India is far from peak both in corporate profits and valuations.

From a quantitative perspective, a study of last ten years indicate that an average return of 6.7% and 15.1% can be expected in Nifty 50 in 6 months and 1 year respectively from the date of the budget.

Table 1

Rupee Outlook

The Indian rupee depreciated about 2 percent against the US dollar in 2021, its fourth straight year in the red. But it performed better than its peers such as the Japanese yen, the South African rand, and the euro, which depreciated by 11.5 percent, 8.5 percent, and 8 percent respectively. In light of India's abundant foreign exchange reserves and the rupee's strong performance in comparison with its global counterparts, the Indian rupee's depreciation beyond Rs 78 (Dh3.86) per US dollar is unlikely.

While the rupee had depreciated significantly in 2013 when Fed announced monetary tightening, this year-round the scenario will play differently. At present, India holds the fourth largest FOREX reserve in the world (equivalent to about 12 months of import cover). As of December 24, 2021, India's foreign exchange reserves totaled $635 billion (Dh2.3 trillion). Given these circumstances, the Indian rupee is in a better position to handle turbulence induced by the US central bank's tapering. While INR is on relatively sound economic grounds, volatility is still on the cards. India’s trade deficit and how the Fed unveils rate hikes and balance sheet reductions can potentially weigh on the Indian rupee in 2022.

From a quantitative perspective, a study of the last ten years indicates that the rupee generally depreciates by approximately 4.2% over 6 months and 1 year from the budget.

Table 2

By 2022, markets will probably transition from early-cycle to mid-cycle. India's macro fundamentals remain strong, with economic activity expected to remain well above its long-term trend, suggesting a further boost to consensus GDP growth for FY23. From a long-term perspective, India's growth story is compelling, further upgrading the outlook for the financial markets.

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