Practical analysis for investment professionals
28 July 2014

Reality Check: What Is India’s New Budget Telling Investors?

Earlier this month, newly elected Indian Prime Minister Narendra Modi’s administration delivered its first budget. This bears serious attention as the budget is a good indication of the government’s focus and prioritization over the remainder of fiscal 2014 and the entire fiscal 2015.

Modi’s Decisive Win Has Generated a Lot of Enthusiasm

Investors have high hopes for the new government. This is obvious by looking at the Indian stock market, which started to pick up pace months before the election. The excitement is also evident in the investment community. Angus Tulloch, head of Asia Pacific Equities at First State Stewart, wrote in a recent client note after visiting India: “I have never ever seen a business community anywhere so enthusiastic about the election of a new political leader.”

“Modi was described again and again as a decisive, driven and far-sighted leader who is determined to improve India’s economic growth rate,” Tulloch went on to say in his report.

India Inc.’s thirst for growth is understandable. Thirty-five years ago China was its poor neighbor. Today it is India that has been left by the wayside in terms of economic growth and level of GDP per capita.

When I spoke with Navneet Munot, chief investment officer at SBI Funds, after the Indian election, he also expected the new government to push business-friendly policies and attract foreign investments. By building physical and social infrastructure and at the same time implementing fiscal consolidation, he expects India’s manufacturing sector to become more competitive.

That Enthusiasm Can Only Be Partially Met by the Budget

Here are my take-aways from this budget.

First, it’s a tough balancing act. Anyone who has had to balance her own family checkbook knows it’s not possible to spend more when getting paid less, at least not for long. Unfortunately that is the challenge the Modi administration is facing.

The new government clearly appreciates the value of fiscal discipline but also has to commit to a sufficient number of projects to create momentum. The budget strikes a delicate compromise that starts from the good intention of keeping the fiscal deficit in check. Many economists, however, have questioned how tax revenue can grow close to 20% while nominal GDP is only expected to grow by 13% (real GDP growth of about 5–6% plus inflation). So progress towards that goal bears watching. For example, will the government resort to borrowing to keep the projects going if revenue growth falls short or will the Modi administration speed up the privatization effort?

Second, infrastructure projects have received prominent attention in this budget. The planned capital expenditure increase is keeping pace with the aggressive projected revenue growth at 18.8%. The increase is significantly higher than in previous years. The money is flowing into infrastructure projects such as power, ports, shipping, and irrigation. This is probably the most promising aspect of budget.

Third, the new government has clearly chosen an inclusive path by watching out for the interest of lower-income families. This is reflected throughout the budget in a multitude of initiatives that aim to control inflation, and such agricultural initiatives as measures to improve irrigation, expanding the food processing industry, and establishing a food stabilization fund. These will all have positive effects in terms of stabilizing food prices over time.

Food subsidies will continue to grow while overall subsidies will stay almost flat. The pragmatism demonstrated by this new administration, however, will likely disappoint those who see subsidies as a waste of resources or a distortion of the market mechanism and wish to do away with them ASAP.

India Has a Long Road Ahead

Even if we remain optimistic on India’s future growth potential, the “inconvenient truth” about economic reforms is that it takes time for the policy measures to be put in place and take effect. The task at hand is often more complicated than it seems, and resources are limited. For example, key measures at improving India’s competitiveness, such as education, infrastructure investments, and attracting foreign investments, are all long-term goals in nature. Throwing money at these issues is also not a realistic solution given the long-term nature of the spending needs.

As much as everyone hopes for a silver bullet, there is probably no better way ahead than setting the right direction and strategy and keeping to it. That seems to be exactly what the Modi administration is doing.

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Please note that the content of this site should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute.

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About the Author(s)
Larry Cao, CFA

Larry Cao, CFA, senior director of industry research, CFA Institute, conducts original research with a focus on the investment industry trends and investment expertise. His current research interests include multi-asset strategies and FinTech (including AI, big data, and blockchain). He has led the development of such popular publications as FinTech 2017: China, Asia and Beyond, FinTech 2018: The Asia Pacific Edition, Multi-Asset Strategies: The Future of Investment Management and AI Pioneers in Investment management. He is also a frequent speaker at industry conferences on these topics. During his time in Boston pursuing graduate studies at Harvard and as a visiting scholar at MIT, he also co-authored a research paper with Nobel laureate Franco Modigliani that was published in the Journal of Economic Literature by American Economic Association. Larry has more than 20 years of experience in the investment industry. Prior to joining CFA Institute, Larry worked at HSBC as senior manager for the Asia Pacific region. He started his career at the People’s Bank of China as a USD fixed-income portfolio manager. He also worked for US asset managers Munder Capital Management, managing US and international equity portfolios, and Morningstar/Ibbotson Associates, managing multi-asset investment programs for a global financial institution clientele. Larry has been interviewed by a wide range of business media, such as Bloomberg, CNN, the Financial Times, South China Morning Post and the Wall Street Journal.

4 thoughts on “Reality Check: What Is India’s New Budget Telling Investors?”

  1. Jyoti Ranjan says:

    Why budget has disappointed market.

    1. Larry Cao, CFA says:

      Hi Jyoti,

      Good question though I would not go as far as saying the budget disappointed the market. The budget did make it crystal clear that there are a lot of issues to tackle and there is only so much money to spend. Economic transformation can take generations to happen and the Modi administration apparently understands this.

      Warm regards,

      1. I think the way of working and pattern of governance will make the difference and play important role in reform process

        1. Larry Cao, CFA says:

          Dear Bhumit,

          Many thanks for sharing your perspective! I tend to think cultural changes such as work habit can take time as well but I will be very glad to be proven wrong in this case.

          Warm regards,

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