India Budget 2020: A Step in the Right Direction, but a Push Is Needed

We saw a broad continuity in the government’s agenda from the previous year, even though the budget announcement didn’t provide much material upside. This includes increasing tax net and compliance; encouraging domestic manufacturing and infrastructure; high divestment targets; and encouraging the flow of foreign capital through maintaining fiscal prudence.

The announcement comes at a time when India’s GDP is expected to grow by 5.8% in 2020, a slower pace than the 6.8% growth in 2018 and marginally better than 2019, which was more recently revised downward to 4.8%.¹ There were high expectations for the budget, but given recent weakness in India’s economy, the budget largely reflects the government’s decision to stay firmly on the fiscal consolidation path without any significant stimulus to the economy beyond perhaps some modest measures to boost income and infrastructure.

We can see the Indian government is making efforts to boost local businesses by removing the dividend distribution tax at an estimated cost of 250 billion rupees (US$3.5 billion). This could help lift corporate savings, and therefore revive the private capital expenditure cycle, which in turn could attract more foreign investors or international companies.

Start-up firms may also feel the impact as the government announced it would boost financing for small- to medium-sized enterprises in technology or export-oriented sectors.

Overall, we view this budget as an effort to propel growth in the right direction.

However, we think initiatives that would likely boost consumption were largely absent in the budget due to fiscal constraints. We believe the real key to demand stimulation and higher compliance lies in a reduction in the goods and services tax (GST), a tool now considered by the GST council, rather than a much-discussed budget item. If revenue momentum were to increase, we think the GST council will more likely have leeway to reduce GST rates for certain items.

Our investment case for India very much remains the same—it is a domestically oriented economy driven by internal demand and investment, low export share, favorable demographics, with a stable government who implement reforms targeting long-term sustainable growth. In the near term, we’d expect GDP growth to pick up in 2020, driven by rural income, counter-cyclical growth stimulus and export growth.

As we have observed in the past, corporate earnings growth has moderated in recent years, led by muted demand, a weak credit cycle and a tepid investment cycle. This, along with cheaper valuations in small- to mid-capitalization stocks, suggests to us that we’re over the hump. We believe the Indian economy and corporate earnings growth could be set for a gradual recovery over the next one to two years.

What Are the Risks?

All investments involve risks, including the possible loss of principal. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Investments in foreign securities involve special risks including currency fluctuations, economic instability and political developments. Investments in emerging markets, of which frontier markets are a subset, involve heightened risks related to the same factors, in addition to those associated with these markets’ smaller size, lesser liquidity and lack of established legal, political, business and social frameworks to support securities markets. Because these frameworks are typically even less developed in frontier markets, as well as various factors including the increased potential for extreme price volatility, illiquidity, trade barriers and exchange controls, the risks associated with emerging markets are magnified in frontier markets. Investments in fast-growing industries like the technology sector (which historically has been volatile) could result in increased price fluctuation, especially over the short term, due to the rapid pace of product change and development and changes in government regulation of companies emphasizing scientific or technological advancement.