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Budget 2012: End of Economic Budget; see Poll Budget next year, says DB
March, 06th 2012

Speaking to CNBC-TV18, Abhay Laijawala, head of research at Deutsche Equities India says that this is the last time the government can present an economic Budget. "Next year, it will be an election Budget," he says.
According to him, subsidies are an important issue that the government must address. Subsidies as a percentage of GDP have now increased to 3.5%. "The government can go ahead with subsidy rationalisation," he says, adding, "if the government does not address subsidies, this bill could rise to even more significant levels resulting in expectations of a crowding out of the private sector."

He says that since the begining of the year, the government has shown intent of wanting to do many things on the reform-side, and investors are now looking for action. "The 15-month election-free window after this budget gives the government time to figure out matters such as fiscal consolidation," he says.

Below is the edited transcript of the interview. Wait for the video.

Q: What is it that you are pricing in as a best-case scenario or the worst-case scenario for the market at this point from the election impact?

A: I haven't yet seen the results, so I would not be able to comment on what the trends are at this point in time, but our expectation is that any kind of a political combination that does not result in any significant reversal on expectations of fiscal consolidation or uncertainty over a mid-term poll will be seen positively for the markets. So what kind of a combination will that be is very difficult to assess, but investors do not like uncertainty and investors do not like governments that are excessively populist. So any scenario that leads to expectations of excessive populism, political uncertainty, return of political uncertainty or any kind of a disappointment on some expectation of the need for fiscal consolidation will be seen negatively by the market.

Q: Not so much political uncertainty, but what the market was more focused on was some degree of policy certainty post the results of these elections with a little bit more elbow room for the government at the center. Are investors focused on that or would they like to see the budget as a clear indication of how serious the government is on moving ahead with the policy and fiscal consolidation this time around?

A: Absolutely. So the expectation is that 2014 is a national election and therefore theoretically, this is the last time the government can present an economic budget because one year ahead of the national election in 2013, next year, the government will be challenged by the compulsions of a popular democracy as the country heads into a national election. Thus, the time is now.

In addition, investors have also since the beginning of the year believed that with the budget coming after the completion of the key state elections and a near 15-months state election-free window, the government will use that time period to address the much-needed fiscal consolidation.

Honestly, the element of worry for investors has been the runaway increase in subsidies. Subsidies as a percentage of GDP has snowballed now to almost 3.5% of GDP and with fuel prices where they are, the worry is that if the government does not address subsidies, this bill could rise to even more significant levels resulting in expectations of a crowding out of the private sector.

So I think in the budget, investors do believe that the government is most probably going to use the time period to address the issue of subsidy rationalization and investors are looking for much more than just intent. Since the beginning of the year, the government has demonstrated significant intent on wanting to move ahead on many issues such as policy paralysis and investors are now looking for action.

Q: The most important part of the piece will still be global liquidity and you have got hundreds of investors attending your conference, what is the sense you are likely to take away, that mood is still strong about buying into emerging markets like India or are they hesitant after the recent rally which has surprised many investors since the start of the year?

A: The mood is cautiously optimistic. Clearly, most investors have been taken by surprise by the velocity of the rally since January. No investor thought in December when LTRO-1 was launched that it will be as successful in terms of changing the mood on how a global systemic crisis have been averted or European systemic crisis has been averted, and increasingly now, we are getting more and more confidence from global central bank that they will look at various unconventional methods to basically ensure that a systemic crisis is averted. Look at what we have seen in the US- QE1 and QE2, in Europe, we have had an LTRO1 and LTRO2, in Japan we have seen the government also talk about an additional boost of quantitative easing, Bank of England, I could go on and on....

So clearly, world central banks are going out and expanding the balance sheets, and this is resulting in a significant amount of confidence coming in that the situation on the ground, in the real economy, will not result in snowballing into a full blown crisis. So that is obviously leading to this wave of liquidity that we have been seeing which is flowing through into risky assets. Emerging markets are risky assets and therefore, emerging markets are feeling that impact.
Q: The next week or so will be a sort of crossroads for the markets but at this point would you be buyers into the market? A lot of people are wondering whether there is more left in this year in terms of performance or not?

A: We are constructive on the market at this point in time on account of global factors that I spoke about. In relation to the domestic factors, I think we will know in the next couple of hours what the results are of the election and therefore the political contours will be known in the next couple of hours. Honestly, investors will also be looking at the budget as well as the monetary policy. My sense is that markets will take a clear direction only after those two events have panned out.

I would imagine that the markets will probably try to get a sense of what will happen on March 15-16 from the contours that we see from the state election results, but the markets will still look for the two actual events to pan out before taking a full fledged view. So my answer is we remain constructive on the markets, but we are also watching these events and will take a call on the situation after these events and the outcome of these events.

Q: How did you read the news that came out of China and on balance would you be buyers into some of these commodity stocks or do you think that the run in commodities generally and metal faces may be coming to an end?

A: I think there are two angles to the story over here. One is the global liquidity and the other issue is the fundamental demand. As a result of the financialization of global commodity markets, we do believe very strongly that this wave of liquidity that is sweeping through the global economies will be positive over commodities. Unless the situation on the ground, particularly China, worsens very significantly, commodities should be an attractive asset class.

In addition, the lure of commodities also comes from them being seen as an inflation hedge and very perversely, this wave of liquidity that is sweeping through the world is going to result in the return of inflation and in such an environment, physical commodities will be a very strong hedge.

So net-net we remain, I as a commodity analyst would be positive on commodities as an asset class and within commodities obviously certain commodities will do far better but overall commodities as an asset class still has some boost left.

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