Finance Minister Nirmala Sitharaman is expected to opt for a fiscally prudent approach for FY 2023 and reduce fiscal deficit target in the presentation of the union budget next week, experts said, as India prepares for its sovereign bonds to be eligible for inclusion on global bond indices this year. ICICI Direct Research said it expects fiscal conservatism to be back gradually keeping in mind the likely inclusion of India in the global bond indices, adding that fiscal prudence will act as trigger for global bond inflows.
Global bond inflow
“With FY23E likely to mark a reversal of the interest rate cycle globally, fiscal prudence gains higher importance. Also, to prevent bond yields moving higher, policy measures to ensure inclusion of India’s sovereign bonds in global bond indices is a key expectation from the Budget. It may bring US$20-40 billion per year and provide the much needed demand support for G-Secs,” the brokerage said in a recent note.
“We also expect fiscal conservatism to be back gradually keeping in mind the likely inclusion of India in the global bond indices. With buoyancy in tax revenues, relatively contained spending and higher nominal GDP growth, we expect the fiscal deficit to be contained at 6.3% vs BE of 6.8% of GDP for FY22E. With a goal to reach a $5-trillion economy by FY25E, we expect capital expenditure allocation to continue to remain higher for FY23E as well while healthy tax revenues and mega disinvestment pipeline may help contain fiscal deficit to ~5.0%,” ICICI Direct added.
Twin factors: Fed tightening, inclusion on global indices
On the backdrop of India’s plan to be included on global benchmark bond indices this year and US Federal Reserve preparing the path for policy tightening, a fiscally prudent budget is warranted, Edelweiss Research said. The brokerage said India’s policymakers have been preparing for inclusion of India’s bonds in the global benchmark bond indices, and this may happen sooner than later. “India’s trade deficit is no more benign. It is clocking >USD20bn for four straight months now. Even if it narrows seasonally in Q4 from current levels, it would still remain elevated. Clearly the combination of Fed tightening and India’s large trade deficit call for fiscal prudence,” it added.
For the current fiscal year, India’s fiscal deficit target of 6.8% is expected to be met buoyed by higher tax revenue and PSU disinvestments. Edelweiss expects fiscal deficit to be 6.8% in the current FY 2022 adding that it expects it to fall to 6.5% in FY 2023. “Overall, the global macro backdrop is not conducive for an expansionary fiscal stance. However, given domestic recovery is nascent, we believe it would be prudent on the government’s part to take a calibrated approach to fiscal consolidation,” it added.
Morgan Stanley said it would be looking for clarity from the government for Indian bonds to be included into global bond indices in its budget presentation. “The last hurdle to get Euroclear is to solve the outstanding tax issues including who pays the tax and at what rate foreigners need to pay. We expect that the budget would provide more clarity on the tax issues, which could be addressed in the parliament later. This should pave the way for India getting Euroclear in 2Q. We believe that the GBI-EM index inclusion announcement by JPM could happen in late 2Q or 3Q,” JP Morgan said in the note.
An impending issue that is obstructing India’s plan is the capital gains tax levied on foreigners who invest in local debt. The government may propose to exempt international clearing platforms like Euroclear settlements from tax in the upcoming budget clearing way for Indian debt to be eligible for inclusion on bond indices, Bloomberg News reported earlier, citing people familiar with the matter.
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