Budget 2014: Why the stock market is happy !

At the outset, Arun Jaitley’s first budget has nothing much to be happy about for economists. The finance minister retained the fiscal deficit target set by his predecessor, which is worrying because it raises questions about the quality of fiscal consolidation.

It is widely believed that P Chidambaram had managed to bring down the deficit by rolling over subsidies to this year. So economists expected the government to rationalise the figure by raising the target to 4.3-4.5 percent of GDP. However, Jaitley refrained from doing that.

Then there was a general feeling that the government would ring in subsidy reforms and cut wasteful expenditure. Nothing of that sort has happened, apart from expressing the intent, which even Chidambaram had done.

So what is that made the markets happy?

One is the that the government has taken a slew of measures to increase the disposable income of the middle class. This will surely help increase the consumption demand in the economy, which will boost the companies.

Another reason is a marginal tilt towards capital expenditure as is evident in the graph below.

Capital expenditure is a spending done for the long term, while revenue expenditure is the short term expenses which are unlikely to accrue major benefits.

Thus, the government’s endeavour has to be to increase its capital expenditure and decrease its revenue expenditure. An increase in capital expenditure essentially means the government will invest in productive fixed assets.

As the graphic shows, during the last three years, the capital expenditure has stagnated at 12 percent of the total expenditure. The high revenue expenditure can be attributed to the UPA government’s indulgence in wasteful spending.

This year’s budget has made small tilt towards capital expenditure by increasing it by a percentage point. This is good news for the companies.

As Kotak Institutional Equities noted in a post Budget report, “This signals the government’s intent towards supporting the investment cycle recovery.”

Towards the fag end of the UPA tenure, the economic indicators had evidently shown an improvement. Current account deficit and fiscal deficit, the two key figures that brought down the equity markets and the rupee in the early part of the last year, were contained. Inflation started moderation and the economic growth also seemed to have bottomed out.

However, investment cycle was one area that had frozen. Now, with the government increasing the capital spending, this will also see a pick up. This is making the markets happy.