Straight from the Specialists
Union Budget 2011: Relief to the common man, opportunity to the investor?
(The views expressed in this column are the author’s own and do not represent those of Reuters)
With the Budget less than ten days away from being presented in the Parliament, market is already rife with speculations about what the Finance Minister is likely to propose and what not. Though many people proclaim that over the years the Budget has become more of a non-event for the equity markets, the very same people can be seen putting their precious time and intelligence at work in trying to speculate what it may contain.
Investment Strategies are formed around these speculations and one runs the risk of making or losing money depending upon whether the speculation was right or wrong. In light of the above, it seems that such speculation is entirely unwarranted and illogical. But there is no harm if one does have a wish list. As citizens of a democratic country, it is our duty as well as right to let the powers that be know what we expect from them or wish them to do.
The wishlist can be bifurcated into two parts, one from a common man and second from an investor both of whom are also honest tax payers.
Starting with the ‘common man’, given the current scenario, any wish list for the budget must definitely include inflation. Inflation is the worst form of taxation as it taxes the rich and poor alike. With inflation running close to double digits the common man has been left with very less disposable income which has affected his savings and investments as well as discretionary consumption.
A hike in the basic exemption limit from Rs. 1.6 lakhs to Rs. 2 lakhs coupled with a rejig in the tax slabs in line with the proposed Direct Tax Code (the slab over which a 30% rate of tax is charged should be hiked from Rs. 8 lakhs currently to Rs. 10 lakhs as proposed under the DTC) and a hike in the maximum deduction limit u/s. 80C from Rs. 1.0 lakhs to Rs. 1.2 lakhs and that u/s. 80CCF from Rs. 20000 to Rs. 30000 will go some way in providing relief.
A hike in the limit u/s. 80CCF which is exclusively available for investment in infrastructure bonds will also go some way in ensuring the flow of household savings into productive activities.
Another step that can be really effective in controlling inflation is a reduction in excise duty on petrol and diesel. This can help on two fronts – first it will bring fuel price inflation down thereby moderating the overall WPI inflation.
Second, it is likely to result in a decrease in transportation costs that are intrinsically built into the price of every product that we use. As oil prices reduce, transportation costs should also come down thereby resulting in lower prices of most products.
The RBI had, in its recent policy statement, noted that inflation, particularly food inflation, is becoming more structural in nature due to rising income levels, changing consumption patterns, low productivity of farms, sharp changes in weather patterns, dependency on monsoons and infrastructure related constraints in warehousing and logistics.
These cannot be cured by monetary policy. What needs to be done is to take steps to increase farm productivity, build irrigation facilities to reduce dependency on weather gods, build requisite infrastructure for effective storage and transportation of farm produce and streamline the supply chain whereby farm products reach the end users directly in a transparent and efficient manner. The finance minister, in his budget for 2011-12 can provide requisite funds for the aforesaid purposes and also a mechanism to ensure that the funds are actually utilised for the purpose that they are meant for.
We believe that these steps, if taken, can result in curbing the menace of inflation and its adverse impact on people to a great extent.
After Food, Health remains the other important area of concern for the common man. For health, steps can include a hike in the deduction limit for health insurance u/s. 80D to Rs. 20000, given the fact that healthcare and health insurance costs have been rising in the past few months. According to some estimates, less than 2% of India’s population have a health insurance cover. An increase in the limit will help in widening the base and increasing the penetration of health insurance among the masses.
Coming to the investor, we believe, the budget should first of all be very clear and honest about the projected revenue and fiscal deficits for 2011-12. There is no point in projecting a rosy fiscal picture by under-reporting subsidy figures or taking them off the balance sheet. Let the true picture be presented. All of us understand that we need to give subsidy in certain areas.
But let that be shown in the balance sheet. The things that investors dislike the most are uncertainty and non-transparency. If we are so embarrassed by deficits, let us take concrete steps to curb them rather than trying to hide them.
It is heartening to note that the expected disinvestment proceeds of Rs. 40000 crores in FY12 and proceeds from the revised fee structure for additional 2G spectrum can provide some relief on the fiscal deficit front. But should we rely on these one time sale of national assets to manage our deficits or should we manage expenses to bring the deficit under control? And even if we have to run a deficit at all, it should be to increase productivity by investing in infrastructure rather than giving doles that hardly reach the target.
The fiscal deficit for the current fiscal is likely to remain contained at 5% of GDP simply because of the unexpectedly large proceeds from 3G spectrum and BWA auctions, strong growth in gross tax revenues and robust growth in nominal GDP, courtesy high inflation. What the markets are worried about is whether we would be able to meet the 4.8% target set for fiscal deficit for 2011-12?
In the absence of similar flows from 3G spectrum as seen last year, the government might have to mainly rely on tax collections and borrowings to fund the gap between income and expenditure.
Of late, there have been rumours that the Finance Minister might declare an amnesty scheme for tax offenders in the budget. The last such offer – Voluntary Disclosure of Income Scheme (VDIS) was introduced in the 1997-98 budget. The scheme was a resounding success with total number of disclosures of over 0.47 million, involving disclosure of income of Rs. 33000 crores (estimated at 2.3 per cent of GDP at current market price for the year 1997-98).
The scheme netted collections placed at Rs. 10100 crores (estimated at 0.7 per cent of GDP at current market prices for the year 1997-98). The revenue collected under VDIS 1997 accounted for about 7 per cent of the gross tax revenues and 20 per cent of the gross direct taxes of the centre respectively as per the revised estimates for 1997-98. A scheme of a similar magnitude, if proposed in this budget, can easily result in additional inflows of Rs. 35000-45000 crores to the exchequer, thereby taking a lot of pressure off the fiscal deficit.
The second deficit that the budget should address is the current account deficit which is a function of trade deficit. Any step towards encouraging exports by way of subsidized funding for major export oriented sectors or extension of tax benefits for export oriented units would be welcome. Today, in the wake of the protectionist measures being adopted by our export destinations such as the USA, further support to our export oriented sectors is all the more important. Sectors such as IT, Textiles, Gems and Jewelry thus need to be supported.
On the investment front, the fact that Equity Linked Savings Schemes (ELSS) have been excluded from the ambit of Section 80C in the DTC regime is a cause for concern. ELSS, as a tax saving option serves three purposes – it saves tax for the individual, ensures that the investor gets relatively higher returns on his investment over a medium term horizon as compared to other instruments and last but not the least, ensures the flow of household savings towards capital markets/private sector, which is by far the most efficient user of capital.
The reason to exclude ELSS from the ambit of Section 80C under the new regime seems inexplicable and should be reversed at the earliest.
India has one of the highest household savings rate globally. Yet the average per capita net worth in India in 2006 was only 24.7 per cent of the world average. The reason behind this is the investment pattern of Indian households’ savings. Nearly 35 per cent of the household savings are channeled into physical assets such as property and gold. In 2010 alone, Indians have bought 963 tonnes of Gold worth Rs. 1.73 lakh crore (Source: World Gold Council).
Further, financial assets are dominated by traditional fixed income securities thereby restricting the scope for capital appreciation. A bulk of the households’ financial assets (more than 60%) are in the form of cash and deposits. Equity-related investments form only 10-12% which is in sharp contrast to 22% in China and 30-40% in developed countries.
The opening up of the insurance and mutual fund sectors to the private sector has been a huge trigger for channeling long-term savings into equity markets in India. Reforms such as the de-materialisation of shares, tax benefits on equity investments and greater regulation of the capital markets along with technological advances such as online trading have facilitated retail participation in equities. Increased distribution reach of insurance and mutual funds and attractive returns given by markets in the last decade, also contributed to this shift. It is thus imperative for the government to promote the development of equity markets and the insurance and mutual fund sectors.
As the economy treads the development path, households’ discretionary spend will rise. This might lead to reduced savings and increased spending. This underlines the need for change in household portfolio strategy in favour of building net worth through the acquisition of wealth generating assets. By doing so, the reduction in savings can be more than offset by the increase in the net worth of the household, thereby creating a positive ‘wealth effect’.
Time and again, it has been proved that Equities are the best option for wealth creation. Over the long term they have given the highest return among all asset classes. Anyone who had invested Rs. 1,000 in the Sensex at its inception (in April 1979) would now have over Rs 1, 48,000 ( as on February 16, 2011); a phenomenal CAGR of 16.9% over 32 years. This is the kind of opportunity that is created by equity investments. Due to enhanced equity participation of Indian households through channels such as life insurance and mutual funds, domestic institutional investors (DIIs) have started to become an important force.
However, there is still a lot of way to go before our stock markets stop being at the mercy of FIIs. Steps are thus needed in the form of tax benefits and a growth friendly regulatory environment for equity investments through direct, insurance as well as mutual fund channels.