As in the past, sceptics about India were again proved wrong. The government showed guts and pragmatism in equal measure to present a budget that was, perhaps, the most significant since the dream budget of 1991. Nifty and Sensex gave a standing ovation.
Standing ovation it was; for the stock markets
The previous weekend may have been uncomfortable for market participants. The Sensex had just corrected 3,500 points and the 50,000 level suddenly looked elusive. The government had been tight-lipped about the budget. When the budget was announced, there was a sense of disbelief. By the time, the markets absorbed and digested the full import of the budget, it was clear that scepticism had given way to optimism. As is always the story in such cases, the shorts rushed to cover and helped the rally along the way.
The Nifty and Sensex have rallied close to 10% as the chart above shows. But the question is what it was about the budget that really excited the markets. Or was it just; no bad news is good news!
Being transparent about the fiscal deficit
Most analysts underestimate the importance of this aspect. Global investors are not worried about the level of fiscal deficit; that is for the rating agencies to fret over. Investors are worried about whether the fiscal deficit is actually transparent and whether there is a game plan and timetable to reduce the fiscal deficit. The budget scored high on both these counts.
Firstly, the budget announced an aggressive fiscal deficit of 9.5% for FY21 and 6.8% for FY22. Both these numbers were nearly 250 points above the consensus estimates. But the budget did not give false assurances. They have set a long term target of 4.5% fiscal deficit by 2026, and that gives the government sufficient time to spend its way out of trouble.
Secondly, the budget has addressed the highly controversial issue of not disclosing the food subsidy in the budget and keeping it in the books of the FCI. The budget decision to show the food subsidy as part of the budget was strongly welcomed.
Big bang for private ownership
The government has set a target of Rs175,000cr for disinvestment but that is only part of the story. The budget also rolled out an aggressive plan to privatize most PSUs which are not very strategic in nature. It walked the talk by enhancing the FDI limit in insurance from 49% to 74%.
The budget also announced plans to monetize government’s cash flow generating assets like roads, toll-ways and gas pipelines to raise resources. That is innovative and efficient. Lastly, the proposal to set up a bad bank to take over the toxic banking assets will also give a new asset class for investors.
Addressing some historic errors
In any economy, there are some historic errors that get perpetuated. It needs political will to put an end to such practices and the budget did that on multiple fronts . Historically India’s allocation to healthcare has been too low. This year it has been increased by 137% with a promise to gradually move the allocation to 3.5% of GDP. That is a significant shift.
Budget has taken away the tax arbitrage that investors in ULIPs and PF enjoyed. By making them taxable above a threshold, the impact could be huge. In the case of taxing PFs, the distortion of the yield curve will go away. In the case of ULIPs the shift will be fair to equity funds and give flows into MFs a boost. This could have long term positive implications.
There is a method to the market madness
When the rally started in March 2020, there were two key missing links. The first link was whether quarterly results will keep pace with the front-loading done by the Nifty and Sensex. That is satisfactorily addressed if you see quarterly results for Sep-20 and Dec-20.
Secondly, the question was whether the government will be able to sustain the reforms process and handle the fiscal deficit. The budget has proved that both are possible. If you are wondering why the Nifty is nearing 15,000 and the Sensex is still gaining momentum at 51,000; it is all about the big difference that a bold Union Budget has made!