India’s Finance Minister has been making regular announcements on TV every Friday. Each time, she addressed issues to revive the economy and industry. With GDP at a 7-year low of 5% in Q1FY20, manufacturing growth at 0.6%, and agriculture growth at 2%, it was time to act. Some of the measures announced by her included reduced tax for FPIs and some were for affordable housing and exports.
Then came the booster shot yesterday, September 20, 2019. Whereas this was not a Budget, not even an interim Budget, the FM went ahead and reduced corporate tax rates by 8-10%. So, companies that are not claiming exemptions and which paid about 35% tax till last year will now pay 25%. For new companies registered after Oct 2019, the tax rate now is 17%. This is one of the biggest pump-priming moves we have seen since the liberalization in 1993.
What happens with this ?
For starters, it’s been one of the highest stock market jumps in a single day in a decade at >5%. Market cap went up by Rs.7 lakh crores in a day. More importantly, the benefits that Government has given to the corporate sector are to the tune of Rs.1.4 lakh crores. Companies could use this effectively in multiple ways:-
- Increased cash flows would be used to create more capacity which could have its own multiplier effect on the economy (‘I’ will get a boost in C+I+G+Net exports). Investment (Gross fixed capital formation) growth in Q1FY20 was only 4%.
- Companies could also reduce product prices and increase demand for their products. This is much needed to revive consumption growth (only 3% growth in Q1FY20)
- Some corporates which have high leverage and are potential defaulters could also use this additional cash to pay interest and liabilities (there has been a status quo on repayments by many overleveraged companies).
- Give out higher dividends to shareholders/carry out buybacks (stock prices are attractive to do buybacks)
Critics would say that the Fiscal deficit is likely to go up to 3.75-4% and that would lead to an increase in Government borrowing and raising of interest rates. I think there are 2 counters to this –
- Inflation is under control and RBI may look to further cut the repo rate in the 2HFY20.
- For an economy to grow to 5 trillion$, a real growth rate of 8-9% is imperative. At those growth rates, we have to accept a slightly higher cost of capital. The other point I have heard from critics is that demand is an issue and these measures may not revive demand. I would beg to differ. Demand is a function of product prices also. If companies could pass on a bit of this benefit to the consumer, it could lead to better demand. Further, higher corporate investments could lead to more job creation and create its own demand.
The next quarter may not see miracles as numbers may continue to be subdued. But one could see a recovery by 4Q as monsoons have been good and base effect also plays its own role. Markets have corrected incessantly since Feb 2018 and stocks especially some mid and small-cap ones are available ultra-cheap compared to their ‘normalized’ earnings. I am positive about the long-term trajectory of the economy and broader markets.
If you had a chance to see my last CNBC interview on Sep 11 last week link here..https://www.youtube.com/watch?v=E4l0rob005I, I have talked about the cyclical revival for Maruti next year. In fact, the automobile sector is the barometer or more aptly the thermometer of the state of the economy, and the slump in almost every automobiles segment (CV, 2-wheeler, passenger cars, etc.) points to multiple issues of concern with the economy, which could be sorted out from hereon. Toward the end of the interview, I also mentioned this being the best time to create a portfolio. India’s growth story will continue for many years to come, given its inherent consumption-driven nature and potential in its demographics.