The Finance Ministry Arun Jaitley has delivered a budget that met the expectations of the bond market. He has struck to his FRBM (Fiscal Responsibilities and Budget Management) Act target of 3.5% of GDP for fiscal 2016-17. Fiscal deficit target is 3.9% of GDP for the fiscal year 2015-16.
Fiscal deficit target has been set despite higher expenditure outgo on the back of 7th pay commission recommendation implementation, recapitalization of banks and providing for spending on infrastructure.
The government has not over estimated growth in the budget, setting GDP growth at levels of 7% to 7.5%. Hence budget numbers for revenues are achievable and the government can meet its fiscal deficit target of 3.5% of GDP.
The focus of markets will now shift to RBI given that the government is keen on the central bank easing policy rates in the face of global economic worries, high output gap, balance sheet stress in the economy and benign inflation expectations. Read our analysis on the Economic Survey 2015-16 on why the government believes RBI should ease policy rates.
Government has refuted RBI claims that the 7th pay commission implementation could hit inflation expectations and expects CPI inflation at around RBI’s target of 5% for March 2017.
RBI may well ease rates earlier than its policy review on the 5th of April given that government is on path of fiscal consolidation and banks require relief on rates as they struggle with stressed assets.
The government has committed Rs 2200 billion to infrastructure and if the money gets spent, then it may lead to many infrastructure companies getting their balance sheets on track and banks stress of bad loans could reduce.
Government bond yields fell sharply on the back of the government maintaining its fiscal deficit target with the benchmark ten year bond, the 7.59% 2026 bond seeing yields drop 14bps post budget announcement. The bond yield could well trend lower as bond markets expect rate cuts by the RBI. RBI will also provide good liquidity to the system to ease the pass through of rate cuts to the economy.
The INR has also reacted positively to the budget and is up by 0.2% from lows. INR is likely to strengthen going forward as FII’s pump in money into bond markets on rate cut expectations.
The Sensex and Nifty initially dipped by over 1.5% as the budget under delivered on bank recapitalization, did not cut corporate taxes as expected and imposed Dividend Distribution Tax on earnings of over Rs 1 million by investors. However the Sensex and Nifty have recouped losses and gained on hopes of monetary easing.
The budget numbers analysis will be put in Union Budget 2016-17 Cheat Sheet, following this analysis.