ABOUT FOUR weeks from now, the government would announce the Union Budget 2018-19 and state whether it would meet the fiscal deficit target of 3.2 per cent set for the financial year 2017-18 or not. While the discussion around the government not being able to meet the target gained momentum following a decline in goods and services tax (GST) collections for October and November and the Centre’s announcement of additional borrowing for the current financial year, the inflow of news does not seem to have impacted the markets much. Experts say that while the markets have already discounted the same, the fact that it has not resulted into a fall in the equity markets is a result of the structural change in the market where foreign portfolio investors (FPIs) and their inflows are not the only drivers of the market and there has been a big surge in participation of domestic retail money in the equity markets.
“Traditionally, news flows around fiscal deficit targets have been taken seriously by FPIs and foreign brokerage firms and they used to react to it immediately by selling some of their holdings which led to a fall in shares as they were dominant players in the market… However, there has been a big change over the past 2-3 years. Now, there is a fast growing domestic investor base and strong domestic liquidity and that does not care much about missing fiscal deficit targets,” said C J George, managing director, Geojit Financial Services.
There are some who say that the change in the market dynamics, where domestic retail investment into equities through mutual funds (MFs) is much more than the investment done by FPIs in a year, has led to a situation where FPI exit is not leading to much correction in the market. “In the recent past, we have seen that FPI exit from market is not leading to any meaningful correction as domestic liquidity is strong and it more than makes up for the outflows. So, FPIs have a fear now that if they sell, they will not be able to make an entry into the Indian markets at the same level,” said a senior official with a leading MF who did not wish to be named.
Data show that in the first eight months of the financial year 2017-18, while the net inflow into equity MF schemes amounted to Rs 1,10,791 crore, the net FPI inflow amounted to only Rs 57,135 crore. In contrast, in 2014-15, while the net inflow into equity MF schemes amounted to Rs 68,121 crore, the FPI inflow stood high at Rs 1,11,332 crore. The dominance of FPIs in Indian equities can be clearly seen from investment figures between FY07 and FY15. In the nine-year period between FY07 and FY15, while the net inflow into equity MFs amounted to Rs 1,03,526 crore, the net investment by FPIs was six times at Rs 6,26,082 crore.
The concern over fall in revenue
Over the past couple of months, concerns have grown over the fiscal deficit. The government’s revenues have been under pressure, owing to lower dividend transfer from the Reserve Bank of India (RBI) and the declining revenues under the GST regime. In August last year, the RBI had transferred a dividend of Rs 30,659 crore against the estimate of Rs 58,000 crore and less than half of the amount of Rs 65,876 crore that it had transferred in the previous year.
GST collections have been declining since October, with the mop-up for November slipping to Rs 80,808 crore (as on December 25), the lowest since the July 1 implementation of the indirect tax regime. The impact of GST rate cut on over 200 items that became effective from November 15 was reflected in the month’s collection, which were about 14 per cent lower than the collection of Rs 94,063 crore recorded for July (as on August 31) and about 11 per cent lower than the projected monthly target of Rs 91,000 crore.
The government had garnered Rs 83,346 crore as total GST revenue for October (as on November 27), Rs 92,150 crore for September (as on October 23), Rs 90,669 crore for August (as on September 26) and Rs 94,063 crore for July (as on August 31).
The government has cited deferment of the implementation of some of the main features of GST such as matching of returns, e-way bill and reverse charge mechanism as the reasons for low compliance under the new indirect tax regime. After a hurriedly called meeting on December 16, the GST Council approved February 1, 2018, as the date for e-way bill system for inter-state movement of goods across the country and June 1 as the date for both inter-state and intra-state movement of goods. The government is now also considering revisiting options such as invoice matching and reverse charge mechanism that were earlier deferred owing to concerns raised by businesses.
Amid concern around revenues, market experts say that the fiscal deficit might breach the government’s target of 3.2 per cent. Last week, Abheek Barua, chief economist, HDFC Bank, said in a tweet: “The government is likely to breach fiscal deficit target for FY18 by around 0.3 per cent of GDP.” There are others who have projected a similar figure. By October, the government had already crossed 96 per cent of budgeted deficit with another five months to go in the current fiscal year.
However, experts say that retail investors do not worry too much about fiscal deficit numbers and for them, the more important factor is a rising equity markets and dwindling returns from other asset classes, especially the physical assets.