Wednesday, February 29, 2012

Goldilocks budget - any chance?

Under normal circumstances, last day of February is "budget day"

However, budget this year is postponed to March 16, owing to polls in 5 states which extends up to March 4 after which counting starts.  Our Finance Minister has a tough task at hand.  Complex coalition government (the only thing that I recollect from the last year is inaction),  global situation being what it is, dwindling economic growth at home, prolonged period of high inflation and burgeoning fiscal deficit  - damned if you do and damned if you don't, Mr.Mukherjee! 

Challenges and high expectations aside, some of the likely outcome of the budget are:
  • Individuals can expect a  modest increase in exemption limit, lower tax rates may be asking for the impossible but it is likely that highest income tax to be made applicable for those with annual income above Rs.10 lacs (as against existing 8 lacs)
  • Tax deduction limit is likely to be increased on interest paid housing loans.  This might boost the real estate sector and balance the burden of increased interest rates for home buyers
  • To give a boost to investment into infrastructure, the tax breaks is likely to be increased from the existing Rs. 20,000
  • Exporters may not get any additional tax incentives in the form of excise duty exemption / reduction (select industry), service tax exemption on ECGC premium or currency conversion. 
  • Corporate tax rate is likely to remain as it is but there may be higher depreciation benefit in the offing to encourage companies to replace assets and there by boosting infrastructure sector
  • Airline Industry may get some relief with support packages being considered to help the cash strapped industry
  • Service tax threshold may be increased and MSMEs may get additional attention 

On a broader perspective, market is expecting a Goldilocks budget, one which is pro growth, pro investment and one that deals with inflation and fiscal deficit.  Possible?


Wednesday, February 22, 2012

News and views

Euro zone finance ministers agreed on a much awaited Euro 130 billion bailout package for Greece to avoid defaults.  A major bond repayment is due in March; while this rescue package is facesaving for Greece (albeit temporarily), there are lingering doubts about Greece's ability to recover and more importantly avoid default in the future. EU had managed to stall immediate risk of contagion by forcing Greece to commit to unpopular austerity measures and pushing bond holders to take big losses.  It's hard to see how Greece would implement austerity measures / achieve new fiscal targets and ensure growth or in the absence of the latter how would the former be possible.  

Last week, BOJ announced sizeable quantitative easing to stem deflation.  BOJ's asset purchasing program is expanded by a further Yen 10 trillion where they will buy more long term Government bonds.  In a first time move, BOJ also set a numerical target for inflation.  This move coupled with the fact that  the market is more willing to wear a "risk on" hat (post Greek deal), Yen has lost considerable steam in the last week or so.

There is plenty of support to risk appetite.  Greek bailout has helped and the US economic data continues to be better than expected.  FED has committed to keep the rates near zero for a considerably long time. This increased risk appetite is evident; yesterday dow moved above 13k mark for the first time since May 2008. 

In China, PMI (manufacturing activity) remains under 50 (contraction territory).  February data at 49.7 is better than 48.8 in January however it is been in a contraction zone for the fourth month in a row.  This would continue to keep the pressure on PBoC to keep the rates soft / ensure liquidity for a considerably long time.  

PMEAC (PM's economic advisory council) 's chairman C Rangarajan  said "we might be able to achieve 8% growth (12-13)on our esteem and if the world environment is favorable, we will be able to achieve higher growth rate".  Also according to him, excessive appreciation of rupee is not good. I wonder what is the point of reference for comparison - 54, 49 or 45?

Wednesday, February 15, 2012


Greece economy shrank close to 7% in 2011 and it's entering its fifth year of recession.  It's efforts to push through a tough austerity measure may in all likelihood win it a bailout package (second time) from Troika (EU, IMF and ECB); but how this will help the country in the long run is the question.

Unemployment is north of 20% compared to 7.7% in 2008.  With more and more tightening that is being pushed down its throat, in return for a proposed Euro 130 billion package, Greece's GDP is likely to go down a whopping 20-30% over the next few years. Almost one half of Greek below the age of 25 are out of work and many of those who still hold a job have not been paid in months.

Even after Greece parliament has signed off for an harsh package of spending, wage and pension cuts, the troika sent Papademos back to the drawing to board to come up with further cut of 300 million Euros. Euro Zone finance ministers have called off a scheduled meeting and instead holding a tele conference today hopefully to decide the fate of Greece and a bailout package.

It is justified that troika is dragging its feet; Greece failed to implement reforms it promised in exchange for it's first bailout (110 billion Euros) more than a year back - missed targets for reducing budget deficits, still dilly dallying on privatizing state assets,  trimming the staff strength of public sector and such. Greece has done a remarkable job in bringing down primary deficit and private consumption but far from where they have to be!

Chief Economist at citigroup has coined a term Grexit (Greece exit) and they see a 50% probability of Greece exiting the Eurozone in the next 18 months. It could well be the best for Greece.  However, does Greece have the luxury to opt out? International lenders will withdraw aid and financial system would collapse.  It probably makes more economic sense for Greece to continue to swallow bitter medicine and bear painful side effects; which is precisely what the political leaders are opting for.  

However how long will Greeks put up with rising unemployment, negative output and increasing homelessness? That ultimately would decide Grexit and how quick!

Wednesday, February 8, 2012

Market knows the best

Indian Rupee and stock markets have risen close to 8% and 15% respectively since the start of 2012.  Rupee's rise is largely attributable to (1) RBI's measures to bring in stability to rupee and (2) foreign portfolio flows.  Foreign Institutions bought into Indian equities to the tune of $ 3.2 billion (net) in 2012; compare this with 2011's net outflow of $357 mio.  This explains the sharp recovery in Indian stock markets.  Why is investment pouring in?  valuation?  expectation of low interest rate regime?  factoring in investment / business friendly budget? 

My anxiety stems from the fact that nothing has changed significantly in the last month to justify this euphoric move.  We are still dealing with the overhang of Euro debt crisis and it's impact on emerging markets, internal policy logjam and Government's inaction, fiscal deficit, inflation (current levels seem unsustainable as seasonality factor looms large), CSO's (Central Statistics Office) latest growth projection of 6.9% for FY 2012 (India GDP was a much impressive 8.4% in 2010-11) and the list could go on. I don't want to sound like a naysayer; but this recovery has been so quick, I have trouble comprehending!

If we scratch the surface a bit more, we see recovery in industrial output, expanding manufacturing and service sectors, impending low interest rate regime and its positive impact on businesses and rupee's smart recovery - is a a turnaround  round the corner? Has the market got its instinct and timing right? 

Having spent close to couple of decades in (and trying to understand) markets, the one thing that I have learnt is, "market knows the best".  Financial markets are (said to be) efficient and prices in all information. Research shows that, when it comes to comprehending big picture of the economy,  market is more spot-on as it aggregates the information of millions of investors.  While we are fretting over statistics, is market (read group of investors) seeing a different and much better picture emerging? 

Is India about to shine again? Is the stock market and rupee rally likely to continue?  The answer is, I don't know.  The reality is, that  the assets are where they are today - rupee stronger, asian stock markets higher, gold well above 1700, euro (presently at 1.3275) defying fundamentals and Dow looking promising (a tad below 13k). 

So what do we do? Some thoughts till we market talk again next week:

(1) Market is reality, view is merely speculation
(2) If you want to gamble, Vegas may be a nice choice
(3) No one went broke booking profits 

Wednesday, February 1, 2012

How soon is EU breaking apart?

Another EU summit was concluded earlier this week and an important agreement (?) was reached.  New pact tightens the leash on fiscal policy in Euro zone countries; deficits should be no more than 0.5% of  GDP and the Governments would have to pledge to maintain balanced budgets into their constitutions. Violators could now be sanctioned by the European court of  Justice. This fiscal discipline is intended to keep the pressure on Italy, Spain, Greece and other troubled countries. EU leaders have agreed to bring out the EU's permanent bailout fund ahead of schedule; there are also talks of spurring growth and creating jobs.

However, there are some nagging concerns (1) there is no talk of increase in size of the bailout fund, which seems necessary to build strong firewalls against defaults (2) with austerity measures (tax hikes and reduction in budget spending), growth could be a big challenge (3) unemployment in the region is already at euro-era high; if growth prospect looks bleak, job creation looks bleaker (4) clarity is missing as to what this fiscal pact would do to address euro zone's debt problem today (5) Austerity led reform may not necessarily be the way forward - Portuguese which has been earnestly trying to implement reforms has not gone very far (it's 10 year T-bills yield is around 16%!!!) and may soon be lining up for a second bailout.

Fact remains that, there is going to be no easy way out.  Even though there is no assured prize (read no risk of default) for implementing and practicing austerity, troubled European countries are not left with much choice.  Germany's Chancellor Merkel is pushing  EU members to bring about fiscal discipline first for she knows that some of the nations would simply not pursue meaningful reforms once / if they got bailed out of their debt crisis.  

It is also a fact that fiscal pact that is being doctored is no remedy for current crisis;  some of the economies need much stronger boosters.  In the absence of willingness to address this economic reality, no amount of fiscal convergence and economic / political reforms would help.  A classic catch 22 situation.  It looks like some of these debt laden countries will exit the union sooner than we think!