Monday, October 15, 2012

Indian government unveils policy basket to counter staggering growth and downgrade risks

India’s slowing growth turned from a threat to reality with India recording the worst first quarter growth in a decade, with no significant improvement in available second quarter numbers for industrial output. Growth forecasts have thus been lowered by every agency making such projections; the lowest being that by IMF at below 5% for the year 2012. Even as threats of rating downgrades were dismissed by some as of no consequence, the fact remains that our financial markets are driven by FII sentiments and many of these entities are barred from investing in junk rated countries. The Indian government has now responded with a basket of measures which not only boosts market sentiment, but if implemented could go a long way in boosting longer term capital inflows and tackling domestic issues such as supply-constraint driven inflation and the clearing of infrastructure bottlenecks.  In a string of bold initiatives to revive economic growth, the central government, first announced Rs 5 per litre increase in the regulated diesel prices and a cap on subsided cooking gas usage. It later withdrew customs and excise duties on non-subsidised LPG cylinders, a move that will help bring their prices down. The government followed up these measures with a liberalisation of foreign holding caps in the aviation, multi-brand retail, non-news broadcast media and power exchanges. Multinational retailers can invest up to 51% to open stores in states and UTs which agree to implement the decision. Minimum amount to be brought in by the foreign investor would be USD 100 million and outlets may be set up only in cities with a population of more than 10 lakh. At least 50% of FDI should be invested in 'back-end infrastructure' within three years of the first tranche. FDI in multi-brand retail, once strongly in motion, is expected to bring about significant improvements in agricultural warehousing and supply-chains.

The government also announced a plan to divest its stake in five companies. The rate of withholding tax on overseas borrowings has been reduced to 5% from 20%. The lower rate will be applicable for overseas borrowings made after July 1, 2012 and before July 1, 2015. Borrowings under a loan agreement or by way of issue of long-term infrastructure bonds that comply with External Commercial Borrowings regulations as administered by the RBI would be eligible for benefits of the concessional tax regime. The RGESS an initiative intended to support first-time equity investors not only expects to promote a ‘equity culture’ in India and discourage investments in gold, but also aims to revive the mutual fund industry, which has now been included in the scheme along with exchange traded funds.

The government set in motion a second wave of reforms, approving proposals allowing foreign investors to own up to 49% in insurance firms and pension funds. Signaling the government's intent to continue with reforms to boost economic growth and investor sentiment, the Cabinet cleared all amendments to the insurance bill. The cabinet also cleared the Pensions Bill and allowed FDI in Pension Funds. It also took the cap in the pension sector to 49 per cent following the insurance sector. The proposed changes to both the bills will now have to be cleared by both houses of the Parliament before they can come into effect. Till now, 26 per cent FDI was allowed in the insurance sector while the pensions business was closed to foreign investment. Looking to better serve the interests of all stakeholders, the government approved amendments to Companies Bill 2011, including changes related to spending on CSR activities. The proposed legislation will bring the law on the subject of corporate functioning and regulation in tune with the global best practices so that there is further improvement in corporate governance in the country through enhanced accountability and transparency. A provision has been introduced to make expenditure on Corporate Social Responsibility (CSR) mandatory. Giving a reform boost to commodity markets, the government approved the FCRA Bill that seeks to provide more powers to the regulator Forward Markets Commission (FMC) and allow a new category of products and to facilitate entry of institutional investors.

A segment within the government has been leaning towards cash transfers to poor households as the way out to deal with an unwieldy subsidy bill estimated at Rs 2.5 trillion (on three major subsidies—food, fuel and fertilizer). The government is set to step up its push for cash transfer of subsidies with two pilot projects validating the assumption that it would lead to significant savings for the government while enhancing benefits for users.

Get regular updates on Growth, Inflation and other Indian & Global Macro-Financial indicators/data with E-UpDates—A Monthly Statistical Bulletin by Ecofin-Surge.

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