Fears allayed

Apart from the transaction tax, the Budget sends the right signals

Except for a correction when the finance minister announced his big plans for the rural sector, the markets were doing fine for most of the budget speech.

At one point, the Sensex had touched the 5000 mark and the Nifty had gained 1.26 per cent over Wednesday's close. Then the FM dropped the TT (transaction tax) bomb.

By the end of the day's trading session, the Nifty had fallen four per cent, and the Nifty June contract closed at a discount of almost 28 points or 1.83 per cent.

On an annualised basis this works out to a huge discount of 31 per cent. But apart from the turnover tax fiasco, which affected all markets, the budget has sent all the right signals. It has kept the fiscal deficit in check and lowered the revenue deficit from 2.9 per cent of GDP in the interim budget to 2.5 per cent.

Chidambaram has also announced several reform initiatives. The hike in foreign direct investment limits in three critical sectors, and the decision to disinvest government stake in NTPC sends out strong positive signals.

The decision to increase banks' exposure to capital markets, the promise of liberalisation of FII limits in certain sectors, and the setting up of the investment commission are all positive for the markets.

The programmes for investment and lending to infrastructure, agriculture and the rural sector are all positive for growth. The key question is""-will the Budget change FII's perceptions of the Indian market?

Global considerations will of course be paramount, but the Budget has at least scotched some of investors' worst fears. At the very least, it has given FIIs a reason for remaining overweight in India.

Debt markets

Debt markets ground to a halt on Budget day, thanks to the uncertainty on whether the turnover tax is applicable to the debt markets as well. With turnover being massive in the debt markets and spreads wafer thin, a turnover tax of 15 basis points is ridiculous.

Most importantly, since the tax is to be levied on transactions through an exchange, deals will migrate to the over-the-counter telephone market, which is completely contrary to the transparency that the regulators have been insisting on.

The other negative for the bond market was the increase in the mutual fund dividend distribution tax for corporates. To be sure, companies could shift their investments in debt funds to growth schemes.

It remains to be clarified however whether the lower capital gains tax on 10 per cent will be applicable to mutual funds as well. But even if it doesn't, the alternative for corporates is to take a hit of 20 per cent on dividend distribution tax or pay tax at the corporate tax rate.

Far more worrying for debt funds is the effect of the turnover tax.. The hike in the FII investment limit for debt is a positive, but it's unlikely to lead to any large increase in FII investment in debt in the short run, given the current fears of a rise in interest rates.

The best news for the debt markets is the marginal fall in net government borrowing, from Rs 90,502 crore in the interim budget to Rs 90,365 crore (net of market stabilisation bonds) now.

With contributions from Mobis Philipose and Amriteshwar Mathur