The FY18 Union Budget has become one of the most awaited announcements for several reasons. A host of operational changes to Union Budget’s presentation have been announced over the last few months which make this budget a first of its kind.

These include advancement of the budget date by a month, presentation of consolidated funds for the Centre as well as Indian Railways and change in expenditure classification. However, more importantly, factors/events such as demonetisation, proposed GST implementation and new Fiscal Responsibility and Budget Management (FRBM) targets have imparted ambiguity to this year’s budget.

Budgeting of FY18 government revenues has become quite uncertain this time on account of a lot of moving parts viz. 1) additional revenues from Income Disclose Scheme II, 2) possible tax collections from unaccounted money, 3) extent of economic slowdown due to demonetisation, 4) special dividend (if any) from RBI and 5) GST implementation. While a part of tax buoyancy next year may come from improvement in tax compliance following demonetisation, the extent of government’s optimism on revenue front would determine the room for fiscal expansion.

We expect the government to meet its FY17 fiscal deficit target of 3.5%, facilitated by strong buoyancy in indirect tax collections. However, the government is likely to relax the earlier stipulated 3% fiscal deficit target for FY18 to support economic growth, albeit continuing on the path of fiscal consolidation. Unlike the previous three years when economy was recovering gradually, this year’s budget is getting formulated in an uncertain macro-economic environment. Moreover, after having delivered cumulative rate cuts of 175bps since January 2015, the Central bank has limited headroom available for significant monetary policy expansion. This makes it critical for the government to pursue modest fiscal expansion accompanied with cognizance of resultant inflationary pressures.

The new FRBM Committee, set up to review fiscal consolidation roadmap, is widely expected to recommend a target range for fiscal deficit. This would enable government to better manage fiscal balances, particularly in years of volatile economic environment.

We foresee the following as key priority areas in FY18 Union Budget:

1. Strengthening spend on the rural sector ahead of state assembly elections: Given that the rural sector has suffered more because of demonetisation, the government is likely to increase spending on rural and social sector schemes such as rural employment, housing, agriculture and irrigation. Further, it remains to be seen whether the government would implement the universal basic income scheme.
2. Sustained focus on infrastructure spending: Private sector investments have remained lacklustre over the last few years. Leveraged balance sheets of corporates and low utilisation levels suggest that a revival in private capex cycle is unlikely to happen soon.  As such, we expect government’s spending on infrastructure to remain strong with focus on sectors such as roads, railways and power transmission. 
3. Rationalisation of direct tax structure: In FY16 budget, the government had mentioned about reduction in corporate tax rate from 30% to 25% over the next four years accompanied with phasing out of exemptions and deductions. We expect the government to initiate this, particularly given weakening business sentiments. Moreover, the government may also provide some relief to individual income tax payers by relaxing tax slabs. 
4. Push to digital transactions and financial savings: The strengthened focus that the government has shown towards transforming India to a cashless economy provides cues of further such steps in the budget. We also expect government to provide incentives to boost financial savings which remain low at 10.8% of GDP in FY16. 
5. Incentives to MSMEs: The government might also announce tax sops and improve access to credit to micro, small and medium enterprises (MSMEs). This segment has got impacted due to demonetisation on account of supply-chain disruption which often runs on cash-based ecosystem.

We expect benefits of demonetisation to fructify in the medium to long-term, particularly via improved tax compliance and consequent widening of tax net, even though it has a transient negative impact on the economy. This would facilitate the transition of India’s taxation system towards a simpler, stable and transparent one, thereby improving ‘ease of doing business’ in India.

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