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Union Budget FY19 - Maximum reach at minimal cost

FY19 Budget has focused on getting buoyancy in rural economy (16% increase in outlay for agriculture and allied activities), increasing capital expenditure on infrastructure, railways and roads (20% + increase in outlay), small and medium enterprises (income tax reduction), expanding healthcare facilities to vulnerable sections (increasing health insurance  cover to 100mn families), supporting Make in India by increasing import tariffs and providing relief to the middle class salaried tax payers (by re-introducing a rebate in income) while keeping fiscal deficit (3.3% in FY19 vs 3.5% in FY18) and borrowings within manageable limits. The revised budget estimates for FY18BE imply buoyancy in tax collections but a sharp cut in capital expenditure to keep fiscal deficit in control. We believe that FY19 budget estimates for both direct and indirect (17% yoy growth) tax revenue collection and 10% growth in expenditure are achievable, as the Government aims at improved compliance and higher nominal GDP growth than in FY18. With structural reforms in indirect taxes (introduction of GST), fiscal deficit target of 3% has shifted by a year to FY21. While equity markets were volatile through the day, given introduction of a long term capital gains tax of 10%, the bond markets sold off on higher TBills issuance in FY18RE (revised estimates).

Tax revenues growth expected at 17%, FY19BE: The tax revenues are expected to grow at 17%yoy to Rs14.82trn, FY19BE. The budget builds in GST regime stability in FY19 numbers, implying 67%yoy growth in FY19BE to Rs7.44trn. This growth is calculated over GST collection of 9 months in FY19 (Jul-17 to Mar-18) at Rs 4.45trn. When we annualize FY18RE collection for four quarters and compare it with FY19 growth, we get a normalized growth of 25% yoy, which in our opinion is achievable. Personal income tax is expected to grow 20% yoy on back of expansion in tax base. However, corporate tax growth is built in lower at 10% yoy (marginally lower than nominal GDP growth, accounting for revenue lost on lowering the corporate tax rate for firms with revenues upto Rs2.5bn).

Overall expenditure growth pegged at 10%yoy, FY19BE: Union Budget has built in a 10% yoy growth in revenue as well as capital expenditure for FY19BE. The key focus areas are: a) rural economy, b) infrastructure, c) employment generation, d) social welfare and e) MSME support. Consequently, rural allocation is pegged at Rs14.34trn (Rs2.36trn from budgetary support and rest from extra budgetary support). One of the key points in support of farm incomes is fixing MSP at 1.5x the cost. We believe that would lead to a 21% hike food subsidy bill to Rs1.69trn (up 21% yoy, FY19BE). Infrastructure Capex outlay is up by 21% yoy to Rs5.97trn (roads, railways and urban infrastructure to be the key beneficiaries) in FY19BE.

Deriving Q4FY18 estimates: Our revised FY18 budget estimates of imply a 27% increase in personal tax collections but a 9% decline in indirect tax collection for Q4FY18. Further capital expenditure is expected to decline by 65% after having risen by 29% in 9M FY18. We expect the government to rely on extra budgetary resources for capex in the meanwhile.

Interest rates tilt on the upside: The GFD/GDP of 3.3% alongside the government targeting to bridge 74% of the fiscal deficit through market borrowings implies a net borrowing requirement for of Rs4.62trn by the government, marginally higher than Rs4.59trn in FY18RE. Even though gross borrowings for FY19BE are lower than market expectations, T-bill issuance has been taken at a high level for FY18E. This implies supply fears in the market. Further, our expectation of a retail inflation is unlikely conducive for any rate cut from the RBI. Global yields have also moved higher on the back of expected tighter monetary policy, we anticipate the 10-year benchmark yield to remain at 7.50-8.00% for most of FY19.

Key themes that emerge from the Budget: Based on the expenditure allocation and policy focus, we expect: a) Boost for rural consumption, b) Roads, railways, urban infrastructure and defence will continue to lead on the public capital expenditure front, c) Agriculture and allied activities to show accelerated growth (provided a normal monsoon in FY19), d) a mild boost to disposable income as salaried individuals get standard tax deduction – beneficiaries to be urban in nature, e) benefit for domestic manufacturing on increase in import duty on specific items.

IDFC budget picks: IDFC budget picks are SpiceJet, Ashoka Buildcon, M&M, Hero MotoCorp, Maruti, Rallis, Bharat Electronics, MRF, Dabur, HUL, Titan, Narayana Hrudayalaya. We reiterate our Mar 2018 Nifty target at 11300 and will revisit it post Q3FY18 earnings season.