10th March 2012

The upcoming Union Budget for Financial year 2012-2013 has importance more than what is ordinarily attributed to this already very critical annual event. To appreciate that, we must understand that the bulk of Indian economic growth is driven primarily by domestic consumption; domestic investments; and from remittances from overseas services. To add to that, the cushion from the government expenditure programme also factors into the economic growth.

However, in the current context, the high borrowing cost in the economy has restricted private sector consumption and investments. This has led to a pause in the savings & investment cycle. The concomitant slowdown in aggregate capital formation implies that the structural growth potential of the economy would moderate considerably over the next few quarters. It is therefore critical to boost investment cycle. It is these investments that would drive future consumption.

Therefore, the main policy thrust of the budget must aim primarily at creating a positive investment climate. This would in-turn kick-start the new growth cycle, fueling further economic expansion.

Recourse to Fiscal discipline by a two-tiered application of frugal expenditure and ingenious resource generation may be required. Divestment of select PSUs in an improved equity market; inflows from the possible spectrum re-allocation; and, a more targeted subsidy regime, may provide a revenue fillip in the next fiscal. The government should lay down a path to move towards a fiscal deficit of under 3% of the GDP. Ideally, the entire government borrowings should become market linked. Consequently, the borrowings from the postal schemes and the PPF too would become market linked. In this context, there is a need to revisit the Reddy Committee report of 2004 on these borrowings.

These steps will not only prove to be a major reform initiative, but will also allow for relative freeing-up of the domestic savings, thus reducing the long-term borrowing cost, and re-energizing the investment cycle. Moreover, this would be in tandem with RBI's stance, and would promote a more effective rate reversion trajectory in the year ahead. The planned detangling of myriad of taxation laws and rules through GST and DTC too has been stalled. Policy movement on that front too is highly anticipated in the upcoming budget.

The Budget must particularly seek to emphasize investments in the infrastructure sector, which is in requirement of investments of US$ 1 trillion in the next 5 years. To address this (amongst many things), a strategic outlook on energy security is needed; and a fresh policy formulation factoring the near and long-term risks of energy price cyclicality, supply shocks, and political vicissitudes (domestic and global) is urgently called for.

Secondly, important legal reforms like Land Acquisition bill, while outside the purview of the budget, do need policy commitment in the budget. Policy movement on DTC and GST too is highly anticipated in this budget.

From the capital markets point of view, there is a need for a consolidated trading platform for equity and debt asset classes; operating within a single (or a coordinated) regulatory framework. While the regulatory function of RBI and SEBI have won world accolade, yet, the incidence of corporate debt within SEBI's purview; while that of gilt/tbill, within the purview of RBI, does lead to market asymmetry at times. The availability of equity and debt assets through a single trading platform would lead to increased penetration within the retail investors segment; and higher capital mobilization within the economy.

Moreover, while equities and mutual fund access to foreign individual investors has been opened up; yet, the operational difficulties resulting from PAN and KYC provisioning have acted as an impediment. To address this issue, greater overseas touchpoints and/or 'online-facilitated application' of the same would be highly conducive.

ELSS has been a highly effective mechanism to popularize equities investment within the retail segment and also promote relatively long-term savings commitment from the investors. Therefore, the tax-savings status of ELSS must be continued under the new tax codes.

Moreover, the empowerment of the Mutual funds to provide a scheme that allows the investor an avenue to invest for retirement and annuity, is highly essential. This would also promote long-term savings behavior. Granting EET (tax exempt on investment, tax exempt on accrual, and taxable on withdrawal) status to such a scheme may prove to be an effective feature in attracting long-term investors, and may widen the market participation. The enactment of the PFRDA and a consequent thrust for bringing it within the EET status would drive long term investments.

A long standing demand of the industry has been to align the taxation status of Fund of Fund's (FoF) with the underlying scheme, rather than the current - 'debt status'. An Equity FoF investor is essentially investing in equity schemes, and as such, should be able to avail the tax benefits which would otherwise accrue to him/her, had they invested directly into those schemes. The rectification of this imbalance would greatly improve the acceptance of the product segment, as also bring the FoF investors at par with regular investors.

In final, the FY13 Union budget may prove to be a tight rope walk for the finance minister, given the view that the political arrangement emerging from the post-poll scenario in UP, may have a major bearing on the budget.