Summary of Economic News in India, August 2006

A Summary of Economic News in India, August 20061 IMF New Delhi Office Markets Nominal Exchange Rate (Rs/US $) • Rupee stable. The rupee/dollar rate remained stable during August at Rs 46.54 per dollar. The six-month forward premium on the dollar was 1.43 percent at month-end, 35 bps higher than at end-July 2006. 44.0 45.0 46.0 47.0 48.0 Net monthly FII flows (mln US $) 2500 1500 500 -500 -1500 -2500 • • 1-Aug 7-Aug 13-Aug 19-Aug 25-Aug 31-Aug Portfolio inflows robust. Net inflows were $ 1.2 billion, the first sizeable inflows in four months. During the calendar year so far (Jan-August) net inflows were only $ 4.1 billion, much lower than the $ 7.3 billion recorded during same period last year. Reserves increased. Foreign reserves increased by $ 2.0 billion in August, reflecting some revaluation effect and intervention by the RBI in the forex market. Reserves were $ 165.3 billion on August 24. BSE Index • Stock market up. The BSE Sensex moved up 955 points on strong FII investment, bringing the increase for August to 9%. 12500 11500 10500 Yield curve 9500 1-Aug 6-Aug 11-Aug 16-Aug 21-Aug 26-Aug 31-Aug 9.0 8.0 7.0 6.0 5.0 4.0 1-Day call 91-Day Tmoney bills • • Call money rate stable. The overnight call money rate, remained stable around 6.10 percent, with comfortable liquidity conditions. July-2006 Aug-06 364- Day 10-Year Gilt T-bills The yield curve flattened. Yields [primary market] on 91-day Treasury bills stayed flat at 6.42 percent during August, while yields [primary market] on 364-day Treasury bills declined marginally by 9 bps to 6.91 percent. Yields [secondary market] on the 10-year government bonds, however, fell by 31 bps to 7.93 percent, reflecting correction at the long end of the yield curve. 1 This is a factual summary of news stories that appeared in the press during the month and does not represent the views of IMF staff. Policy Announcements • 2 Capital account. The Tarapore Committee II on fuller capital account convertibility (FCAC), in its Report submitted to the RBI, suggested several measures to further open up the capital account, along side concomitant steps regarding fiscal, monetary and exchange rate policy, banking sector reforms and development of financial markets. It proposes implementing the measures over a five-year period in three distinct phases, i.e. 2006-07, 2007-09 and 2009-11, subject to review at the end of each phase. Some of its key recommendations are : External Commercial Borrowing (ECB) ceiling to be raised in three phases; ECBs of over 10-year maturity in Phase I and over 7-year maturity in Phase II to be outside the ceiling; and the end-use restrictions to be removed in phase I FII investment limits in government bonds to be increased in 3 phases up to 6, 8 and 10 percent of total gross issuance by Centre and States in a year FII investment limit in corporate bonds to be increased to 15 and 25 percent of fresh issuance in phase II and III FIIs to be prohibited from investing through Promissory Notes (PN); existing PN-holders to be phased out Limits for borrowing overseas by banks to be linked to paid-up capital and free reserves, and raised substantially to 50 percent in Phase I, 75 percent in Phase II and 100 percent in Phase III Limits for corporate investments abroad to be raised to 400 percent of net worth from 200 percent Limit on individual remittances abroad to be raised to $ 50,000 in Phase I, $ 100,000 in Phase II and $ 200,000 in Phase III The overall ceilings on mutual funds’ overseas investment to be raised to $ 3 billion in Phase I, $ 4 billion in Phase II and $ 5 billion in Phase III Foreign institutions/corporates to be allowed to raise rupee bonds, subject to a ceiling Non-residents (other than NRIs) to be allowed access to FCNR(B) and NR(E)RA deposits All individual non-residents and non-resident corporates to be allowed to invest in the Indian stock market though SEBI registered entities (RBI Sep 1) - • Tax reforms. The Government has reportedly rejected a Parliamentary Committee's recommendation to bring within the tax net the agricultural income of persons having both agricultural and non-agricultural income above a threshold limit. BS 21 Divestment. The Government has reportedly returned the cheque for Rs 11 billion received from Sterlite Industries over a price dispute on the sale of a residual 49 percent stake in BALCO, and instead opted for arbitration. [Note: Sterlite Industries had acquired 51 percent stake in BALCO in the first round of divestment in 2001 and had the first right of refusal for acquiring the balance 49 percent]. ET 14 & HBL 22 VAT implementation. The Central Government reportedly did not accede to States’ demand for a 40 percent share in the service tax collection as an interim compensation for the lossess to be incurred for reducing Central Sales Tax (CST) from 4 percent to 3 percent from October 1, 2006. It has, however, offered to allow states to tax 77 intra-state services (33 services currently being taxed by the Central Government and 44 new services) and suggested raising the basic VAT rate to 6 percent from 4 percent to generate revenue. BS 21, 24, 25 & FE 25 FRBM Act. The Finance Minister, in its response to the draft Approach Paper for the ensuing 11th Five-Year Plan (2007-12) put up by the Planning Commission, has reportedly expressed strong reservations against the suggestion that the target for fiscal correction be deferred by two more years to allow additional expenditure on health, education, the rural employment guarantee program, and irrigation and water projects. [The approach paper has projected that expenditure on these counts would go up to 2.5 percent of GDP by 2011/12 from about 1.0 percent in 2007/08.] FE 28 Mauritius tax treaty. India and Mauritius are reportedly reviewing the double taxation avoidance treaty, following reports that many companies (known as post box companies) merely register in Mauritius to escape the tax net. India has reportedly suggested restricting the tax benefits to those companies that have invested beyond a certain threshold in Mauritius and have had a presence in the country for a considerable period of time. India also asked Mauritius to provide more information on investors beyond the know-your-customer norms. ET 28 Subsidy policy. The Government is reportedly considering radical changes in its policy on subsidies, e.g., restricting fertilizer subsidy only to small and marginal farmers, complete elimination of subsidy on LPG, • • • • • - 3 switchover to natural gas feedstock for the fertilizer industry instead of costlier fuels like naphtha, setting separate prices for each rice season, allowing states to have cash transfer schemes for food and kerosene supplies to poor families, and introducing smart cards for every citizen by March 2009. FE 10 • Interest rate. The Government has reportedly asked all public sector banks (PSBs) to seek their respective boards’ approval for raising lending rates. The directives, being viewed as highly unusual and directly impinging on bank management’s autonomy to take commercial decision, came following the announcement by some PSBs (e.g., State Bank of India, Punjab National Bank, Bank of Baroda, and Oriental Bank of Commerce) to raise their lending rates by 25-50 bps. The move was explained as Government’s right to convey its view, being the majority shareholder, though subsequently all the respective boards have ratified their management’s decision to raise their lending rates. ET 2, BS 2,4, 7 & HBL 18 FDI. The RBI has reportedly asked the Finance Ministry to formulate a policy on FDI in stock and commodity exchanges as the current guidelines are not very clear on the issue. The RBI is planning to amend some of the rules under the Foreign Exchange Management Act (FEMA), which have been blocking FDI in various areas (especially in wholesale trading) due to the ‘disconnect’ between the Government’s FDI policy and FEMA regulations managed by RBI. ET 2 & BS 17 Trade policy. India and ASEAN have reportedly agreed to resume FTA negotiation, following India’s offer to trim down its list of negative items to 560 from 850 (initially set at 1440 item) and reduce import duty on some highly sensitive products, e.g., refined palm oil (from 90 % to 60 %), crude palm oil (80 % to 50 %), black tea (from 100 % to 50 %) and pepper (from 70 % to 50%). India is also negotiating a FTA with the European Free Trade Association (EFTA), an association of non-EU member countries comprising Switzerland, Liechtenstein, Iceland and Norway; a bilateral investment promotion agreement with China; and has supported a proposal (by Japan) for a Pan-Asia trade bloc including ASEAN members, China, Japan, South Korea, India, Australia and New Zealand. BS 8, FE 2, TOI 13, YF 18, ET 21, O 24 & FE 24 SEZs. The Empowered Group of Ministers on SEZs has reportedly removed the caps on the number of zones to be set up in the country and cleared 46 new SEZs following reports that such caps have created a scramble among investors to obtain an SEZ license. The caps, earlier set at 150 SEZs, were imposed following concerns expressed by the Finance Ministry regarding loss of revenue and inadequate customs staff to man these zones. The Commerce Ministry is also planning to amend the SEZ rules to check the diversion of exports and production activity from domestic areas to SEZs to take care of the Finance Ministry’s apprehensions of potential revenue leakage due to relocation. HBL 9, FE 11, 18, BS 21, 22, ET 21, 22, 23, BS 24, 28 & 30 Infrastructure. The Government has reportedly agreed to set up a special purpose vehicle to build a dedicated rail freight corridor project linking Delhi, Mumbai, Chennai and Kolkata. The Korean steel company POSCO has reportedly offered to take a 10 percent equity in the rail corridor project connecting its proposed mega steel plant with Orissa’s Paradeep port. FE 25 & ET 28 Essential goods Act. The Government has amended the Essential Commodities Act, 1955 to empower itself to declare any item as an essential commodity for a period of six months, while simultaneously bringing down the current list of essential items from 15 to 7. BS 23 Postal Department. The postal department is reportedly planning to open its door to private participation in its day-to-day core operations and appoint a network of franchisees in more than a dozen key areas. ED 28 Civil service. In an effort to bring in reforms to top civil services (the IAS, IPS, IFS and all Central services), the Department of Personnel and Training has reportedly sought the views from the Administrative Reforms Commission on a draft Public Services Bill, 2006, which has provisions for enforcing a code of conduct that measures efficiency to suitably reward or punish bureaucrats, ensuring a transparent system of transfers, insulating from political interference and protecting whistleblowers. IE 28 Child labor. The Government has issued a notification banning employment of children as domestic servants, restaurants, hotels, motels, teashops, resorts, spas or in other recreational centers under the Child Labour (Prohibition & Regulation) Act, 1986. BS 2 • • • • • • • • Real Sector • 4 Industrial production. The Index of Industrial Production (IIP) rose y-o-y by 9.6 percent in June 2006, with manufacturing growing by 10.5 percent, mining by 4.8 percent, and electricity by 4.5 percent. The core infrastructure sector output rose y-o-y by 6.2 percent in June 2006, compared to 8.3 percent in June 2005. HBL 9, GOI 11 & FE 11 Infrastructure. According to a status report on infrastructure projects, brought out by the Ministry of Statistics and Programme Implementation, 216 projects (out of a total of 742) witnessed cost over-runs, estimated at Rs 509 billion (over an original approved cost of Rs 771 billion) and 269 projects had time overruns (with slow progress in works accounting for the delay in 152 projects; fund constraints for 40 projects; land acquisition problems for 35 projects; and law and order problems in 10 projects). IE 30 Inflation. The point-to-point WPI inflation edged up towards the 5.0 percent level. Weekly inflation rates were 4.67 percent, 4.61 percent, 4.82 percent, 4.92 percent and 4.91 percent for the five weeks through August 19. HBL 4, FE 11, 25 Employment. According to Employment Exchange statistics, the number of unemployed work applicants dropped by 1.1 million (2.7 %) to 39.34 million in 2005. The same had also declined by 2.2 % in 2004. There was a sharp decline in the number of female job seekers in 2005 compared to 2004 as well. ET 14 • • • Fiscal Sector • Fiscal update. During April-July 2006 the central government’s total revenue was at Rs 773 billion (19.2 % of Budget estimate) and expenditure was at Rs 1661 billion (29.4% of Budget estimate). 7000 6000 5000 (in Rs. billion) 4000 3000 2000 1000 0 7000 Revenue 2005/06 2006/07 (in Rs. billion) 6000 5000 4000 3000 2000 1000 0 Expenditure 2005/06 2006/07 • Using three months moving average, the y-o-y revenue growth was 24.4 percent, while expenditure rose by 17.4 percent. The revenue deficit totaled Rs 782 billion (92.3 % of Budget estimate), and the fiscal deficit totaled Rs 864 billion (58.1 % of Budget estimate). GOI 31 50.0 40.0 30.0 20.0 10.0 Revenue grow th (3mma) Expenditure grow th (3mma) • Supplementary demands. The Finance Ministry, in 0.0 its first supplementary demands for grants for 2006-10.0 07, has asked for approval for gross additional expenditure of Rs 479 billion, involving a net cash -20.0 outgo of Rs 87 billion (Rs 53 billion under the Plan expenditure and Rs 34 billion under non-Plan expenditure). BS 8 Tax base. The Government has reportedly estimated that the maximum tax base could go up to 50 million people (30 million at present) or 5 percent of the country's population, taking into consideration family profiles and various tax exemptions currently in operation. BS 21 • External Sector • 5 Trade data. Exports accelerated to 34.9 percent y-o-y in July, compared to 20.8 percent y-o-y in April-July. Imports also quickened, growing by 24.2 percent y-o-y in July, compared to 19.4 percent y-o-y in April-July. The trade deficit widened to $ 16.7 billion in April-July compared to $ 14.4 billion during the same period a year ago. GOI 18, YF 18 & BS 21 SAFTA. The Government is reportedly thinking of suspending all trade concessions under the South Asian Free Trade Area (SAFTA) pact till Pakistan abides by market access commitments in the agreement. ET Sep 1 FDI. FDI inflows into India increased 47 percent to $1.7 billion during April-June, compared to $1.1 billion in the same period last fiscal. BS 18 ECBs. Overseas borrowings by Indian companies increased 98.7 percent to $4.43 billion in the first quarter (April-June 2006), as compared to $2.23 billion in corresponding quarter last year [one-half through vanilla debt instruments and half through foreign currency convertible bonds (FCCB)]. The RBI has reportedly asked all banks to furnish monthly data on the unhedged positions of the companies which had raised funds through FCCBs, following sharp corrections in stock market indices in recent months. BS 7 & 28 • • • Financial Sector • Bank failure. The RBI has put the United Western Bank, a private bank, under moratorium following deterioration in its financial position. The RBI has also imposed a moratorium on Samata Sahakari Bank, an Urban Co-operative Bank. YF 7, RBI & BS Sep 2 Bank merger. Following approval from the Government and the RBI, the Kerala-based Lord Krishna Bank (LKB) was merged with the Centurion Bank of Punjab. BS 21 Prudential norm. In a major relaxation extended to smaller/weaker banks the RBI has reportedly said that only the leading domestic banks would be asked to implement the Basel-II (revised) capital adequacy norms in 2007/08. Thus in the post-March 2007 scenario, Basel II, Basel-I and non-Basel entities would operate simultaneously. BS 31 Public sector banks (PSBs). The RBI has reportedly asked the Government to extend the implementation of the “fit and proper status” guidelines to the appointment of directors and CEOs of public sector banks and sought the power to vet the eligibility of candidates, as is the case with regard to private sector banks, in line with the global best practices. It has also asked the Government to set up a new “board”, on the lines of the Public Sector Enterprises Board, for recommending to the government the names of chairmen and managing directors, executive directors, and directors of public sector banks. BS 31 Corporate governance in PSBs. The Government is reportedly amending the Companies (Acquisition and Transfer of Undertakings) Act, 1970 and 1980, with a provision to empower the Government to dismantle the boards of PSBs and raise the number of whole-time directors to four from two. BS 24 SBI. The Government has reportedly agreed to amend the SBI Act to lower the minimum holding in State Bank of India (SBI) by the RBI to 51 percent from 55 percent to enable it raise capital. The RBI currently holds a 59.73 percent stake in SBI. BS 25 Venture capital funds (VCFs). The RBI has reportedly capped investments by banks in VCFs at 10 percent of their net worth and directed them to seek its prior approval for making "strategic" investments in VCFs, defined as investment exceeding 10 percent of the equity of a VCF. BS 24 Internet banking. The RBI has allowed banks to offer Internet-based foreign exchange services. ET 24 Government bond. The Government is reportedly planning to convert non-tradable bonds worth more than Rs 228 billion held by some state-run banks into liquid tradable bonds in the next 12 months. YF 14 IPO rating. Domestic credit rating firm CRISIL has launched its IPO grading service in a bid to provide investors an independent, reliable and consistent assessment of the fundamentals of new public issues. IE 11 Money lenders. A RBI Committee would soon decide on the possibility of bringing unorganized sources of credit disbursal under the regulatory framework. FE 9 • • • • • • • • • • - 6 ____________________________________________________________________________ Sources Key: RBI-Reserve Bank of India Press Release/Notification; BS-Business Standard; CM-Capital Markets.com; YF/R-Yahoo Finance.com/Reuters; DJ-Dow Jones, TOI-Times of India; OL-Outlook; ETEconomic Times; HBL-Hindu Business Line; H- The Hindu; FE-Financial Express; IE-Indian Express; TTelegraph; TR-Tribune; PIB-Press Information Bureau; GOI- Government of India