ISSUE

VOLUME

Cover Story…. A Responsible Act: Union Budget 2013-14

Open Forum…

Feds QE: Time to cut back? Outlook….

Rupee

Infocus….

Admissions open! New Banking Guidelines Stats Watch….

Railway Budget: Key Figure News…..

News on Emerging Markets

Investeurs Chronicles

March 2013, Volume: 65

Figure Facts

Forex Forward Rates against INR as on 1st March, 2013 Spot Rate 1 mth 3 mth 6 mth US Dollar 54.95 55.35 56.04 56.97 Euro 71.58 72.12 73.06 74.33 Sterling 82.58 83.16 84.18 85.55 Yen 59.15 59.59 60.36 61.42 Swiss Franc

58.48 58.92 59.70 60.76

Source: Hindu BusinessLine

Libor Rates

Libor % 1 mth 3 mth 6 mth 12 mth US 0.20 0.28 0.45 0.75 Euro 0.05 0.12 0.23 0.43 Sterling 0.49 0.50 0.60 0.92 Yen 0.12 0.16 0.26 0.45 Swiss Franc -0.001 0.02 0.09 0.26

Forward Cover

1 mth 3 mth 6 mth US 8.86% 8.04% 7.45% Euro 9.18% 8.39% 7.79% Sterling 8.55% 7.86% 7.29% Yen 9.05% 8.30% 7.78% Swiss Franc 9.15% 8.46% 7.91% As on 1st March 2013 Source: Hindu BusinessLine

Commodities

Commodities Unit (1000kg)

Aluminum 106050

Copper 420500

Zinc 110000

As on 1st March 2013

Call Rates as on 1st March 2013-→6.50%-7.90%

Data from 17th February to 1st March 2013

Sensex Nifty

19501.08

18918.52

5,898.20

5,719.70

Gold (10 gm) Silver (1 Kg)

30173

29723

56218

53706

Crude Oil ($/barrel) Dollar/INR

117.40

110.40

54.29

54.48

Railway Budget Key Figure

Rupee

Union Budget of India for 2013-14 was presented by the Finance Minister, Mr. P.Chidambaram.

India plans to narrow the gap to 4.8 percent of gross domestic product in the year through

March 2014 from an estimated 5.2 percent.For the fiscal year starting in April, India proposes

to raise spending by funding it with higher revenues in a budget aimed at reviving growth.The

2014 shortfall is likely to be 5 percent due to “optimistic” revenue assumptions, while

spending hasn’t been reined in.Investors had expected a closer check on spending and were

disappointed as the government sought to increase taxes on certain individuals and

companies.

Government proposing about Rs 17,000 crore higher net borrowing target in the Budget,

which was more than street expectations, hit market sentiment to a great extent. This in turn

hit the rupee. Especially, banks stocks were badly hit on concerns of tighter liquidity

situation.The union budget for 2013-14 is likely to be negative for the Indian rupee, at least in

short-term. Rupee weakened to its lowest level in the month as increase in spending despite

keeping fiscal deficit targets in place made investors cautious and away from Indian rupee.

Globally, strengthening of the dollar against a basket of major currencies also put pressure on

rupee.

Three month forecast for USD/INR is 55 with risks of further depreciation beyond 55 in the

near-term.

The economy correction process is not short and easy. It is long and painful as growth is

sacrificed for long term fiscal consolidation. To its credit, Indiahas started traversing the road

to the long and painful path of economic correction and that is wholly positive for markets.

Lower fiscal deficit and lower inflation will bring down interest rates in the economy leading to

lower bond yields.Equities will start doing well as the economy is seen, as being on the mend

while a good equity market will bring in capital flows leading to a stronger INR in long term.

It is expected that USD/ INR will reach 53 and 52 in next 6 and 12 months respectively.

Stats Watch

Outlook-Rupee

Impossible trinity

Also known as the Trilemma it is a situation in international economics which states that it is impossible to have all three of the following at the same time:

• A fixed exchange rate

• Free capital movement (absence of capital controls)

• An independent monetary policy

Gloss

Cover Story

An experience of presenting eight union budgets has attributed an envious insight to Mr. P.Chidambaram; clearly reflected in the balanced and cautious budget presented by

him for 2013-14.

To his credit, the finance minister has rightfully addressed many of the immediate economic priorities of the country rather than excessively focusing on the election round

the corner. It is refreshing to see that the finance minister intends to win next general election not by adopting populist measures but through sound economic policies for

accelerating GDP growth and taming inflation through fiscal consolidation.

Key Deliverables

The key deliverable in this Budget was evidence of fiscal discipline, captured in a single number that is the fiscal deficit. Mr. Chidambaram has delivered for this year and

promised to stay on course for next year.Total government spending has risen by only 9.7 per cent, in a year when nominal GDP growth (i.e. real plus inflation) will be 12 per

cent or more. Plan expenditure has been slashed from the originally budgeted figure of Rs 5.21 lakh crore to Rs 4.29 lakh crore - a 17.8 per cent squeeze. Defence spending too

has been slashed with major cut down on capital budget (i.e. acquisition of new weaponry). The exercise, aimed at compressing expenditure drastically and reining in fiscal

profligacy, signaled that the priority of the government is to put the economy back on rails. CAD is also a key focus area of the finance minister which has peaked to a record

US$ 75 billion. The criticality of foreign investment and India’s prerequisite for improving investor friendliness has been well underlined by him.

Another key deliverable was the commitment towards infrastructure creation in the country. All the efforts in other directions can be rendered useless by the fragile

infrastructure of the country. The budget announced a mind boggling amount of Rs. 55 lakh crore to be mobilized during 2012-17 for suitable infrastructure build up. The

Budget unveils a series of approaches to this daunting challenge; the major one being allowing firms to claim a 15 per cent deduction on investments of Rs 100 crore or more

in plant and machinery before March 31, 2015, which they can set off against their profits for computing tax. This is aimed at kick-starting investments by incentivizing

corporates to set up new units or expand capacities within the next two years. Others being an infrastructure debt fund, rural infrastructure development fund, multilateral

development banks, new ports, new industrial corridors, a special dispensation for roads network in the north-eastern region, revving up the India Infrastructure Finance

Corporation and so on.

A noteworthy achievement of the budget was the clarity and stability provided to the tax structure. Direct and indirect tax regime was largely untouched, except for the

justifiable 10 per cent surcharge on tax on earnings of Rs 1 crore and above.

Other policies in respect of meeting specific economic objectives - raising the savings rate which has been dropping, the offering of more incentives for housing loans, the

attempts to plug loopholes, domestic and overseas, are welcome moves as well.

On the inflation front, Chidambaram's implicit promise is that he will conquer the high inflation that has dogged the economy for three years. The big electoral danger earlier

was a credit downgrade by rating agencies.This would have meant an outflow of billions of dollars, causing the exchange rate to crash to maybe `60 to the dollar and inducing

a big jump in prices of imported items. That would have sent inflation soaring to 15%. His Budget now staves off any possibility of a ratings downgrade. Dollars should flow in

and not out.

A Responsible Act: Union Budget 2013-14

All in all, the Budget for 2013-14 needed to address three major concerns -it had to provide some concrete support for the ruling coalition's election platform. Second, given the

size of the current account deficit, at least in the short run it had to find ways to attract larger and more stable capital inflows. In this context, the views of the rating agencies are

important and, given their emphasis on the fiscal situation, a credible reduction in the fiscal deficit was one - though not the only - way of achieving this. Third, the adverse

growth-inflation combination that the economy is currently dealing with requires some structural solutions - for example, with respect to food and infrastructure constraints - to

be implemented with high priority. Given the global and domestic macroeconomic conditions in which this year’s budget was presented, the budget was able to achieve a

balancing act. In doing so, each of the concerns were partially addressed but not completely overlooked.

Disquiets Going forward for FY14, the budget arithmetic is based on nominal GDP growth of 13.4 per cent, total receipts of 23.4 per cent and expenditures up 16.4 per cent — all of which

appear to be optimistic. The secret to the projected lower fiscal deficit of 4.8 per cent of GDP in 2013-14 lies in some optimistic revenue assumptions.

Starting with revenues, the budget has estimated a 19.1 per cent increase in gross tax collections (corporate 16.9 per cent, income 20.5 per cent, excise 14.9 per cent, customs

13.6 per cent and services 35.8 per cent). The 19.1 per cent growth postulated for tax revenue should be considered achievable, given that this year will see growth of 17.8 per

cent, but it is worth noting that service tax revenue is expected to increase by 35.8 per cent - helped no doubt by the amnesty scheme. Of course, revenue could surprise on the

upside - excise revenue this year has grown by more than 18 per cent, when manufacturing growth has been less than two per cent and inflation in manufactured goods has been

low; indeed, excise growth for next year is budgeted at only 14.8 per cent! Nevertheless, question marks hover over non-tax revenue, since growth under this head is postulated

at 32.8 per cent. Further, the overall revenue estimates are dependent on (1) A Rs 558 billion divestment target and (2) Telecom revenues pegged at Rs 400 billion.

These are dependent on market conditions.

As regards expenditure, the budget has estimated a 16.4 per cent rise in expenditures led by a 29.4 per cent rise in plan expenditure and a 10.8 per cent rise in non-plan

expenditure. Key points to note (1) A 10.3 per cent contraction in the subsidy bill. This appears conservative as of the total outlay of Rs 650 billion on fuel subsidies; arrears for

FY13 stand at Rs 500 billion. (2) Similar to FY13, plan expenditure could once again get the axe if the govt is to adhere to its fiscal targets.

Conclusion The stock market's immediate negative response, driven by higher corporate taxes and perhaps by the size of the gross borrowing programme which has upset bond markets

(and therefore hit bank stocks), is not a pointer to the quality of the Budget. Among other things, the gross borrowing figure has within it a buy-back programme for shorter-

tenure debt; net market loans and short-term borrowings will in fact be two per cent lower than in the current year. So while the bond market too has responded negatively, this

will hopefully be a temporary phenomenon.Another concern of the market regarding tax implications of investing through Mauritius has been eased by the finance ministry

today eased investor fears over tax residency certificates (TRCs) of those investing from Mauritius, which resulted the BSE Sensex to bounce back from three months low on

Friday (2nd March 2013).

The Finance Minister, P. Chidambaram, presenting his eighth Budget, has made the best of a bad situation and presented a very carefully directed Budget that doesn’t rock the

boat. Having said that, equally true is the fact that a budget is just one element in the broad framework needed to improve the investment climate and rejuvenate growth.

However the fact that fiscal consolidation is back on track and the Government has managed to put a leash on its expenditures is something that needs to be commended.

BUDGET IMPACT ON SECTORS Positive Negative Automobile Sector

Measure: Rs 14,883 crore allocated to Jawaharlal Nehru National Urban Renewal Mission (JNNURM) for purchase of 10,000 buses under the city modernisation scheme. The

Excise duty on Sports Utility Vehicle (SUVs) hiked from 27% to 30%. The Tax Concession on spare parts of environment friendly vehicles extended till Mar '15

Impact: This is a Positive move for the heavy commercial vehicle industry, which is currently under severe stress on account of declining sales. The Increase in the Excise duty in

SUV segment will impact the encouraging sales of the automobile sector. Extension of tax concession on spare parts of eco-friendly cars is only marginally positive for Mahindra &

Mahindra that manufactures electronic car – REVA.

Infrastructure

Measure: Setting up of a regulatory authority for roads, target of 3000 km of project award in first half of FY14, encouraging IDFs, credit enhancement by IIFCL

Impact: A regulatory body would ensure timely clearances, fund allocation for the projects and the companies may now expect faster arbitration. In addition, encouraging

Infrastructure Debt funds would provide a scheme for takeout financing. This would mean that banks could exit projects after some of time and in turn lend to other projects.

Besides, credit enhancement by IIFCL would provide access to low cost funds for the infrastructure companies.

Textile

Measure- Removal of excise duty on cotton and manmade sector (spun yarn) at the yarn, fabric and garment stages. incentivise Apparel Parks by proposing the Ministry of

Textiles to provide an additional grant of up to Rs10 crore to each Park.

Impact- Garment-manufacturing companies would save close to 2% of their sales, which would directly translate into earnings for the companies. Pressure on pricing of garments

will be lower and garments companies may cut prices which will boost demand in the coming quarters. As per the estimates the demand in the entire value chain may go up by 3-

4%, thereby increasing prospects of enhanced earnings.

Hospitality

Measure: The Budget has proposed to levy service tax on all air-conditioned restaurants.

Impact: The restaurants business has been doing fairly well in the last three to four years. With the imposition of service tax, the company would pass on the increase in service

tax by increasing prices of food items which may lead to lower footfalls. This would impact the company's revenues in the coming quarters.

Cement

Measure: Awarding of 3,000 km of road projects in first half of FY14, Boost to Housing segment by giving tax deductions and allocating funds and no increase in excise duty

Impact: The Sector was witnessing dwindling demand and the move will help assured sufficient off-take of cement by giving fillip to the infrastructure and housing sector. An

additional deduction of interest up to 1.00 lacs apart from 1.5 lacs to home loan buyers will provide a boost to construction activity. Overall positive for cement industry inspite of

the fact the increase in freight rates by 5.8% in railway budget.

Power Sector

Measure: Upward revision of the import duty from 15 to 4% on steam coal imports, exemption of levy of custom duty on imported fuel for power plant and concessional CVD of

one percent to steam coal for a period of 2 years till March 31st, 2014. Permitting power companies to tap External Commercial Borrowing (ECB) route to part re-finance rupee

debt on power plants and increasing power sector's tax-free bonds limit to Rs 10,000 crore from Rs 5,000 crore. To reduce the overall debt cost withholding tax on ECB to 5%

from 20% for three years

Impact: The move would go a long way in incentivising the power sector and benefitting the end consumer.

Indonesia: February inflation surge ‘one shot increase’

Bank Indonesia (BI) says that the inflation in February reflected temporary abberations

only and cited benign core inflation during the month. Monthly inflation rose to 0.75

percent in February, the Central Statistics Agency (BPS) reported. The figure took year-on-

year inflation to 5.31 percent; close to the central bank’s limit of 5.5 percent.

Thailand economic recovery picks pace in fourth quarter

Thailand's economic growth exceeded expectations in the last three months of 2012 as it

continued to recover from the previous year's devastating floods.Gross domestic product

surged 18.9% in the October-December period, from a year earlier. Most analysts had

forecast a figure close to 15%. Compared with the previous quarter, the economy grew by

3.6%.

Philippines: 2014 budget deficit set at 2% of GDP

The Development Budget Coordination Committee (DBCC) on Thursday (28th Feb) said

that it is committed to keep the budget deficit to 2 percent of the country’s gross domestic

product (GDP) in 2014. It clarified that while the budget deficit program has increased

nominally over the last three years, the Aquino administration nonetheless expects the

country’s debt burden to decrease by an average of 1.2 percentage points a year. This will

bring the outstanding debt-to-GDP ratio down from 50.9 percent in 2011 to 46.2 percent in

2014.

South Africa: January trade deficit at record

South Africa's trade deficit widened to a record in January as imports of

machinery, electrical appliances and mineral products soared, the South

African Revenue Service said.The trade gap expanded to R24.53bn in January,

from R2.7bn in December, more than double analysts' forecasts.

Brazil: Tax Breaks for Telecom Companies

The federal government of Brazil has announced plans to allow

telecommunications companies tax breaks provided they make additional

infrastructure investments totaling R$16 billion to R$18 billion before 2016.

However in order to qualify for the waivers, the telecom firms will have to meet

certain criteria.The proposal will exempt any companies wishing to extend the

service of 3G and develop 4G networks from the PIS (Social Integration

Program), COFINS (Contribution for the Financing of Social Security) and IPI

(Industrial Products) taxes.

Chile: Unemployment hits six-year low in Chile

Unemployment dropped to its lowest rate in six years during the November to

January period, according to data released by the National Institute of Statistics

(INE). Unemployment sat at 6 percent for the three-month period, falling 0.1

percent from the previous quarter and 0.6 percent from the same period last

year.The statistics agency attributed the dwindling figures from the last

quarter to the southern hemisphere’s summer season, which boosted jobs in

farming, hotels and restaurants

Emerging Markets

InFocus

Admissions open! New Banking Guidelines On 22nd February, the RBI issued the final guidelines for licensing of new private sector banks

wherein entities both from private and public sector shall be eligible to set up a bank through a

wholly-owned non-operative financial holding company (NOFHC). The new set of licences comes

after over a decade, as previous licences were issued in 2001-02 when two new banks, namely

Kotak Mahindra and Yes Bank got licences. The Market has welcomed the new guidelines as a

balanced approach on RBI’s part to allow a broader set of entities in the banking sector, besides

ensuring maximum prudential norms to avoid any systemic risks.Following this, a host of entities

such as large business houses, brokerages, NBFCs and state run entities are likely to apply for

banking licences. The norms may not have discriminated against any particular category, but its

stringent conditions would most likely keep non-serious players out of the fray. A business group,

which is keen on applying for a license should have a minimum paid up equity capital of Rs 500

crore. At the start of banking operations, NOFHC through which the business house would carry out

banking business, should hold a minimum of 40 per cent of the equity capital of the bank with a

lock-in period of five years. Later, it has to be brought down to 15 percent within 12 year from that

onwards. Secondly, guidelines requirenew banks to open at least 25 per cent of branches in

unbanked rural centers .Many believe, for a new banking entity, it will be stumbling block as the

brick and mortar model especially in rural areas take time to turn profitable. Given that financial

inclusion should be the core of their strategy, aspirants for new bank licences will have to be

prepared for a long haul before they hit the profitability highway. The new norms do not give any

relaxation on capital adequacy, SLR and cash reserve ratio CRR. Given that the new banks would be competing with existing ones, garnering deposits would not be easy for them either. In line with

existing domestic norms, the new bank should also achieve priority sector lending target of 40%.

Interestingly, most of the existing banks are failing to meet the target. Such stringent norms would

surely discourage many from applying for a licence Furtheranalysts say quasi public sector NBFCs

like PFC, REC and IDFC have been created with a “special purpose” and if they convert into a bank,

then the purpose is defeated. Besides, infrastructure lending is very different from the kind of

lending banks undertake.Given that no more than four to five licences would be issued in this

round, analysts believe RBI may show a bias towards large corporates with good track record in

corporate governance and deep pockets.

Open Forum

Feds QE: Time to cut back?

What really spooked the markets last fortnight was the apparent rethink by

the high-powered US Federal Open Market Committee (FOMC) on the costs

and benefits of the third round of quantitative easing (QE3). The minutes

released on February 20 of the FOMCs monetary policy meeting held on

January 29-30 showed that many committee members were in favour of

ending, or at least tapering, the bond-buyback programme earlier than the

markets expected. The US central banks massive bond-purchase scheme,

through which it purchases $85 billion of bonds from the open market (and

releases an equivalent amount), is currently open-ended, and was earlier

expected to end only if there was a significant improvement in the labour

market.

Some potential costs of the programme are somewhat obvious. The strategy

of increasing base money by a humongous $85 billion a month (it works out

to $1 trillion year) could at some point set off an inflationary spiral that could

be difficult to control, also leading to a sharp build-up in inflation

expectations. This is yet to happen. The market for inflation-indexed bonds

has shown some increase in inflation expectations from 2010 but that has

been far from a surge.

The other risk that hasnt really been discussed much is the threat to financial

stability. Low interest rates and abundant liquidity usually lead to a rise in

the issue of dodgy financial securities, and this time is no exception. Junk

bond issuance has been rising sharply as has been the supply of payment-in-

kind bonds, typically issued by distressed companies who wish to defer

coupon payments and pay interest in additional bonds (hence in kind) rather

than cash.

On the other side of the balance, the benefits of QE seem to have reduced considerably. The first two rounds of QE (late 2008 and second half of 2010) came at a time when

deflation was the big risk and real interest rates threatened to go through the roof. Massive monetary easing helped stabilise real interest rates by both suppressing nominal

interests and pushing up inflation expectations. However, over the last few months, real bond yields have actually moved slightly higher.

Then, there is the issue of potential capital losses. Currently, the US Fed earns substantial interest income from its bond holdings and is sitting on unrealised capital gains of

about $250 billion. But capital gains could quickly turn into losses if the interest rate cycle reverses, especially since the composition of the central banks bond portfolio has

shifted towards higher duration (more interest rate sensitive bonds). The more the Fed buys bonds, the larger is the expected amount of capital losses. The Feds paid-up capital

is $50 billion and there could come a point where growing capital losses could lead to technical bankruptcy. The ramifications of a technically bankrupt central bank are yet to

be known.

What does all this mean for the future of QE and the markets? The stance the Fed takes depends on Chairman Ben Bernanke (and other heavyweights like Janet Yellens) views

on the subject. In his testimony last week to the US Congress, Bernanke recognised the costs of continuing with QE but suggested that the benefits still outweighed the costs.

Thus, an abrupt end to QE is unlikely but some reduction in the size of the programme is possible. Emerging markets will have to adjust to a situation in which the flow of

liquidity into their asset markets whenever global investors get into a risk-on mode reduces going forward .This is particularly critical for India given the size of its current

account deficit and the growing reliance on short-term liquidity-driven flows to fund this. When the markets begin to price in expectations of a cut or halt in the liquidity

programme, the rupee could see depreciation pressures build up.

On a slightly different note, bad news is at least temporarily good news for the euro. The impasse over the Italian elections has managed to shed a good four big figures from the

euro-dollar and has, in the process, reduced the overvaluation in the European common currency. The flip side is the fact that Italys failure to either continue with a

government led by a hard-nosed technocrat or vote into power a coalition that would be on the side of continued internal reforms is a reminder of two things. First, Europes

problems are far from over and second, the internal constituency for fiscal consolidation is at best weak.

The recent riots in Spain was primarily about corruption charges against the ruling party and prime minister Rajoy but there was a strong undercurrent of resentment against

the severe austerity measures that Rajoy demanded.

The promise that European Central Bank President Mario Draghi made of doing whatever it takes to ensure the euros survival might have prevented an implosion in the region.

It has, however, not made the road ahead for Europes peripheral economies any less rocky. The prospect of deterioration in Italys fiscal situation and worse-than-anticipated

fiscal prints from Spain could rock the continents boat yet again and lead to another wave of anxiety. With Germanys election around the corner and continuing gridlock over

the US fiscal deficit, the search for a safe haven is likely to continue.

Source: Business Standard

Open Forum

Disclaimer: Investeurs Chronicles is prepared by Research & Analysis Team of Investeurs Consulting Private Limited to provide the recipient with relevant information pertaining to the world economy. The

information contained in the document is based on the releases made by various newspaper & publications; hence, we are not responsible for any inaccuracies in the information provided. Investeurs Consulting P. Limited

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