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BW Businessworld

Getting Bulls Back In The Fray

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Year 2012 started on a despondent note. Most economists and analysts have a near-consensus bearish view on the Indian Markets. What is more worrying is that the bearish view does not stem from the financialturmoil of Europe but is a clear fallout of the state of the Indian economy. The outlook for the Indian market has turned bearish with high interest rates and tight monetary policies slowing down new investment, which in turn has caused GDP growth to slow down. The UPA II government's own coalition partners and the opposition are stonewalling progress. This has impacted execution of public sector infrastructure projects, which will suffer massive time and cost overruns. India's current account deficit is nearing three per cent  of GDP, which is almost similar to the 1991 crisis. The rupee has plummeted 20 per cent, that too without any serious political or economic upheaval.

The fiscal deficit is slipping out of control. The year ahead seems even more challenging with the double whammy of declining revenue and rising government spending staring in the face as we near the election year. In 2012, we are more likely to end with a fiscal deficit of more than 5.5 per cent of GDP against the earlier estimates of 4.6 per cent. The outlook for economic growth has worsened and after 5-6 good years, we appear to be headed for 6-6.5 per cent growth next year. In this scenario, what do we need to do to boost market sentiments? Interestingly, in a market when everybody is bearish, a small trigger can cause panic, short covering and buying. I have put down a few practical and doable suggestions, given the constraints of the current  political situation.

Reduction In Interest Rates
This is the single most-effective weapon policy makers have today. It appears that while the government wants to prioritise the growth agenda the RBI is singularly focused on inflation, which, undoubtedly is a menace to be battled fiercely. Governments and central banks the world-over fear the spectre of inflation as it can wipe out popular support. Inflation is feared for being a tax on the poor. 

Amusingly, while the objective is laudable, the RBI's measures have neither helped the government to win popularity nor has it allowed the masses to smile. Headline inflation numbers have been remarkably non-responsive to monetary tightening as the major villains have been food and crude oil. People really do not borrow for food or diesel but they borrow for a house or for setting up a new factory or a business. In the past few weeks, food prices have fallen, creating yet another problem. For instance, onion prices in Guntur (a large producing region) that were Rs 40 per kg last year plummeted to Rs 2.50 per kg this year. Should the government and RBI be smiling? Not necessarily, because this is a tragedy of errors. Farmers will not be able to repay their debt. A few years ago, many farmers committed suicide due to low onion prices. Today, while the government has lost all credibility, the RBI commands respect and credibility. If it acts decisively and cuts interest rates, we can see a surge in market sentiment.

POLICY MATTERS: Few bold moves are imperative to pump liquidity and to reduce fiscal deficit (Bloomberg)

Reforms Beyond Parliament
There are so many steps the government can take without facing embarrassment in the Parliament. One of them includes auctioning coal blocks on the lines of the 3G auction, which will fetch significant resources to help bridge the  fiscal deficit. The government should also streamline policies related to coal concessions to power plants, clear all files and implement pragmatic policies on land acquisition.

Removal Of Securities Transaction Tax
This tax contributes an insignificant amount of revenue and abolishing it may not appear, on the face of it, as a big idea. However, I think that one of the key problems in the past three years is that retail and individual investors have been decimated and liquidity in the market has dried up. Poor liquidity is not allowing high quality investors to look at mid-cap and small-cap stocks. Removal of the securities transaction tax will revive intra-day trading and engender healthy speculative activity that is seriously required for the functioning of the market. Sceptics may say that speculation is bad but as a matter of fact, no stock market can survive without speculation.

Big-Ticket Disinvestment
The government can kill two birds with one stone by divesting its share in large PSUs. This way, it can revive the equity market sentiment and also utilise large proceeds to meet fiscal deficit. Historically, large PSU disinvestments, done smartly, have rejuvenated the stock markets. The first set of PSU disinvestments in the 1990s triggered the largest mega bull run of the last century. Maruti's disinvestment in 2003 was the beginning of a five-year bull market of this decade. The recent Coal India IPO also sparkled the market even during these tumultuous times. In today's environment, if government can muster courage to disinvest about 10 per cent of Indian Railways, a lot can be achieved. This 10 per cent can fetch a massive amount of money — foreign as well as local. Further, benefits of better corporate governance and professionalism in the largest monopoly would also trickle down to the millions of commuters.

Open Internal Doors To Equity
In the past two decades, wealth creation due to exemplary performance of the economy has benefitted foreigners more than the Indian public. Indian equity is significantly (almost 40-50 per cent of free float) owned by foreigners. Thanks to the stereotypical Indian mentality of comparing equity with gambling, only  one per cent of Indians own equities and only four per cent of household savings is directed to equity assets. This is despite the fact that equities have provided an average return of 18 per cent per annum. vis-à-vis 6-7 per cent per annum on average in the long-term in other asset classes. Consider the example of HDFC. When it was a company with a Rs 500 crore market cap, it was entirely owned by local Indians. Its market capitalisation multiplied 200 times in less than two decades, but alas, it is now 74 per cent owned by foreign investors.

Currently pension funds are allowed to invest only 5-10 per cent in equities in India. The limits are much higher and flexible in the developed markets. In fact individuals are free to choose the type of equities to which their provident fund (called 401k plan in the US) money can be invested in. The government should significantly enhance limits of pension funds and insurance companies for investment in equities. Stock markets have a tendency to surprise analysts and pundits. This year, when most expect an unpleasant year, we may be taken by a big surprise.

(This story was published in Businessworld Issue Dated 23-01-2012)