Addressing the big questions

He was staring in the ugly face of sluggish agriculture growth, a slowdown in industry and services and also an uncertain global environment, especially in the US, which is poised to slip into a recession.

Away from the economic fundamentals, there was pressure from within-his party that had lost some major state elections last year, and he has to prepare the groundwork for Lok Sabha elections early next year. That's the intricate backdrop against which the Finance Minister had to pen Union Budget 2008-09.

But you can always count on Palaniappan Chidambaram, who has presented the previous four Budgets during the tenure of the United Progressive Alliance (UPA) government, to do a fine balancing act. And a tightrope walk it had to be.

Consider: Rising capital inflows- thanks largely to billions of dollars coming into the country by way of foreign institutional investment- have succeeded in pushing the rupee up from Rs 44 last February to Rs 39.77 against the US dollar. This has severely dampened the spirits of the services sector, which has been a major contributor to the Gross Domestic Product (GDP) in the last decade.

"We will take active steps on foreign inflows to ensure stable markets," announced Chidamabaram on Budget Day, even as he also hinted at joint action with the Reserve Bank of India (RBI) to take temporary steps. In fact, the Finance Minister has already announced a tax measure by tinkering with the short-term capital gains tax, taking it up from 10 per cent to 15 per cent.

The FM's relief package But it might not be enough Government and RBI to jointly take temporary measures to manage capital inflows Disincentive for speculators by hiking short-term capital gains tax from 10 to 15 per cent Focus on agriculture with lending target of Rs 2,50,000 crore Export subsidy worth Rs 8,000 crore. Government to respond sympathetically as the situation demands Foreign exchange futures to deepen the forex market

This hike is clearly aimed at discouraging speculative inflows into the country's capital market, especially from hedge funds. Rana Kapoor, Managing Director & CEO, YES Bank, says: "The hike in short-term capital gains tax is clearly aimed at curtailing hot inflows." Shailesh Haribhakti, of Shailesh Haribhakti & Associates, hints at more similar action. "We can see more measures to absorb the capital flows if they persist in future," he says.

Yet, a bitter truth is that as the Indian economy gets more and more integrated with the global economy, India Inc. has little choice but to live with currency fluctuations. Corporate India today sits on higher global currency exposures, thanks to the billion-dollar acquisitions it has been making abroad; even small & medium enterprises (SMEs) have begun increasing their presence in global markets.

Recognising this trend, Chidambaram has introduced a hedging mechanism for interest rate and currency futures-a longstanding demand of the corporate sector. Chidambaram has announced a proposal to launch foreign exchange-traded futures in the market to take care of the hedging needs of India Inc.

In fact, over the past year as the rupee gained in strength against the US dollar, many exporters and IT services companies ended up booking losses on open positions. Meera Sanyal, Country Executive, ABN AMRO, says: "A well-functioning derivatives market will help in managing various market risks more efficiently."

Globally, currency and interest rates are quite popular amongst corporate as well as retail investors. Additionally, Chidambaram has also assured exporters of continuing support by way of subsidy and excise cut reliefs.

Bryce Johns, Chief Investment Officer, Kotak Mahindra Old Mutual Life Insurance, says: "The Budget has brought about cheer for sectors such as pharmaceuticals, healthcare, education, automobiles and textiles. The excise duty cuts meted out are steps taken in the right direction for the growth of the automobile and pharmaceutical sectors." To be sure, Chidambaram has assured that "the government will continue to respond sympathetically as the situation demands."

For a sector like pharmaceuticals, excise duty cuts have come as manna from heaven. But even this industry is facing the heat from an appreciating rupee. Swati Piramal, Director (Strategic Alliances), Nicholas Piramal, says the rupee dollar situation is an area of concern. "Half of our income comes from abroad. Apart from just what is going on between the rupee and the dollar, we are also impacted by the movement of other international currencies," says Piramal.

Clearly, Chidambaram's attempt at cutting duties is a noble bid at spurring demand at home, and thereby make up for the havoc being wreaked overseas by a strengthening rupee.

His attempt to put more money into the hands of the middle-class and small and marginal farmers by way of loan waivers and a higher income tax threshold is aimed at kick-starting consumption and investments in the economy. Himanshu Varia, Head of Institutional Sales at Asit C. Mehta says: "The Budget has tried to address the slowdown in demand of consumer goods and consumer durables by reducing the mean excise duty rate to 14 per cent."

The FM may have also done his bit to make up for interest rate hikes in the past, which in turn slowed down demand for two-wheelers and passenger vehicles. The excise duty reduction on small and hybrid cars and two- and three-wheelers will go a long way in boosting demand.

Robust domestic consumption, however, may not be enough to protect the local economy from the looming shadow of a recession in the US, which has the potential to drag along with it a number of other global economies.

Vishwavir Ahuja, Managing Director & Country Manager, Bank of America, says as far as the crisis in the US is concerned, the question is one of how serious can it get from this point. "We do expect more write downs and it will take 9-12 months to get out of this," says Ahuja. Not everybody is as concerned.

Nimesh Kampani, Chairman, JM Financial, isn't too worried about the direct impact of the US economy hitting rock bottom. But he would worry if it results in some disturbing side effects. "I will be concerned if China starts to dump goods into India," says Kampani. What could come to the Indian economy's rescue, along with domestic consumption, is some sparkling growth in the agriculture sector.

And with so much of emphasis being placed on this industry, it could well prove to be Chidambaram's dark horse. According to industry body CII, the Budget has put a lot of emphasis on the agricultural sector by actually setting a target for increasing gross capital formation in agriculture. "Massive allocation for irrigation is very welcome and much overdue. The institution of the Irrigation and Water Resources Finance Corporation will help in maintaining a continuous focus on irrigation investment over the years and will lead to enhanced productivity," says the CII in a statement.

And if the loan waiver gambit works, it could fuel fresh demand in the agri space; and compensate for any blips on the services and industrial side. That, of course, is as big an if as it gets.