Relief to tax payers and a targeted pro-poor scheme most likely
The Union Budget 2017-18 is scheduled to be released on 1st February 2017.
- Uncertainty looms large ahead of the budget, especially with the economic impact of demonetization still unfolding and the timing of GST implementation yet not clear. However, with the government garnering additional resources post demonization, the market holds high expectations from the budget.
- We believe that to strike a balance between economics and politics, the government could use half of the additional resources to provide relief to (individual/corporate) tax payers and the other half for major pro-poor schemes (under revenue spending). Also, in our view, the government would not want to breach its self-committed deficit target of 3% of GDP for FY18 to uphold its credibility in the market and among the ratings agencies.
- The upcoming budget will be a key event from an equity market perspective. We believe the expected measures to reduce tax liability for individuals may provide a much-needed boost to the consumer-related sector. Companies with higher rural exposure (such as HMN, HUVR, Colgate, Dabur, JYL, Hero Motocorp, TVS Motor and M&M) could be the potential beneficiaries, in our view. Furthermore, higher capital spending may help the defense, road and railways sectors. Bharat Electronics, L&T, Bharat Forge, and Cummins are our top picks (refer the table on Page 3 for details on the potential beneficiaries of the Union Budget 2017-18).
The impact of the Indian government’s recent demonetization drive on economic activity is yet to be fully ascertained. Our monthly economic activity index (EAI) indicates that the Indian economy grew 6.2% YoY in November 2016 (the month in which demonetization was announced), as against +6.8% YoY in October 2016 (and average growth of 6.6% in 1HFY16). Although official macroeconomic data do not show any significant drag on economic growth, we believe the confidence level has been impacted to a certain extent. This is visible in some high-frequency surveys such as PMI, which declined from 55.4 in October 2016 (composite index) to a three-year low of 47.6 in December 2016. The resultant uncertainty has forced some participants to defer their high-ticket consumption/investment plans. This is evident from two-wheeler sales, which fell to a six-year low in December 2016.
Against this backdrop, the markets, not surprisingly, are expecting some relief from the policy makers. However, we believe the monetary authority has very limited room to cut interest rates further. We expect a maximum of one rate cut of 25 basis points (bp) over next 12-15 months. The Reserve Bank of India (RBI) could cut rates next month (or in April 2017) before taking a prolonged pause. Nevertheless, with the central government garnering additional resources post demonetization, expectations of a significant fiscal stimulus are very high. Thus, in this note, we present our expectations from the Union Budget 2017-18.
Our two key expectations from the Union Budget are: (1) reduction in tax liability for individuals, which should provide a boost to the consumer sector, and (2) higher capital spending, which should benefit sectors such as defense, roads and railways. Please see the table on the next page, which highlights sector-wise expectations, as well as the potential beneficiaries if those expectations are met.
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