Daily Note

Institutional Research January 07, 2011

Indices Last Close % Chg 1-d % Chg mtd

From the Research Desk
Sensex 20,185 (0.6) (1.6)
India : All is well except OIL
Nifty 6,048 (0.5) (1.4)
CNX 500 4,865 (0.8) (1.5) Key takeaways
BSE Bank 12,688 (1.1) (5.2) • India’s economy is one-fourth the size of China’s and Japan’s, however, crude oil imports
BSE IT 6,875 0.5 0.7 in volume are 75% and 82% that of China and Japan respectively
BSE Oil & Gas 10,672 (0.2) 0.7
Dow Jones 11,697 (0.2) 1.0 • Higher oil prices, imply higher fiscal deficits and inflation. Partial increase in diesel prices
Nasdaq 2,710 0.3 2.1 is inevitable since under-recovery of Rs.6/litre on diesel is not sustainable for long
FTSE 6,020 (0.4) 2.0
• Financing the oil import bill will be the key risk for the Indian economy. In 2011, India’s
DAX 6,981 0.6 1.0
net import bill will be higher than that in 2008. In 2007-08, ECBs/FCCBs and FII flows
Mkt Breadth Advance Decline Unchanged
were strong enough. In 2011-12, FII and FDI inflows will not be enough
Nifty 20 30 0
Sensex 11 19 0 • Interest rates will continue to harden with RBI raising rates frequently to counter spiraling
Turnover INR Bn % Chg inflation
BSE Cash 36 -12.4
NSE Cash 135 3.0
Headlines
NSE F&O 1,025 6.1 • The government has said that it will dilute stakes in ONGC, SAIL and Hindustan
Total 1,195 Copper during current fiscal year, expects SAIL FPO to hit the market in February. (BS)
Fund Flows US $ mn MTD YTD • NTPC is conducting feasibility study to set up solar power projects in Maldives, final
FII Equity (20) 249 249
report expected in next 3-4 months. (BS)
MF (293) (85) (85)
• L&T has won orders worth Rs11.8bn including orders worth Rs5.6bn for residential
Forex/Bond Chg 1-d Chg mtd
INR/USD 45.39 0.07 0.68 buildings and orders worth Rs3bn for construction of factories. (ET)
USD/EUR 1.300 (0.01) (0.04) • BHEL-Alstom and L&T-Mitsubishi Heavy Industry have made into the final round of
YEN/USD 83.3 0.08 2.17
NTPC’s super critical boiler tender estimated at over Rs100bn. (BS)
10 yr G-Sec 8.10 0.04 0.18
• Rivesdale Mining and Tata Steel have reached an agreement to fully own US$1bn
Commodities Last Close % Chg 1-d % Chg MTD
Brent ($/bbl) 94.5 (1.0) (0.2)
Benga power project in Mozambique. (BS)
Gold ($/oz) 1,372 (0.5) (3.5) • Promoters of Unitech have infused Rs3.8bn in the company through conversion of
Copper ($/mt) 9,475 (0.8) (1.3) warrants into equity, post conversion promoter holding in the company rises to 48.6%.
Aluminium ($/mt) 2,519 2.2 2.0
(BS)
ADR GDR
• AAA Project Ventures, ADAG group company, is expected to invest around Rs16bn in
Scrip Last Close* % chg % Prem.
Dr Reddy's 37.5 (1.3) (0.8) Reliance Infrastructure which will increase its holding in the company to 48%. (BS)
HDFC Bank 156.6 (4.1) 1.7 • Gujarat Mineral Development Corp. is expected to announce a partner for its Rs140bn
ICICI Bank 46.1 (3.0) (0.7) aluminium project in Kutch by January 20. (BS)
ITC 3.8 (5.1) (4.6)
Infosys 77.3 (0.1) 0.9
• HDFC Property Venutres Ltd has reportedly put half of its office space portfolio for sale

Satyam 3.2 0.6 0.5 at Rs6.4bn. (Mint)

Ranbaxy 13.5 0.2 1.4 • Power Finance Corp. Ltd plans to form subsidiary for renewable energy lending which
Reliance 48.2 0.5 0.6
is expected to contribute 20% of its lending. The company’s Rs70bn FPO likely to hit the
Wipro 15.7 0.1 46.4
SBI 119.0 (4.7) 3.0 market around May 15. (Mint/ ET)
Tata Motors 28.1 (3.1) 1.3 • JSW Steel plans to increase coaling coal imports from Australia and US by about 40% to
* US$
support increased production. (Mint)
Sensex
• Suzlon Energy has won Rs8.6bn order from Hindustan Zinc Ltd to set up wind farms
140 22000
in four states which will together generate 150MW. (Mint)
120 20000
18000
• IPO of C Mahendra Exports was subscribed 2.78x on the closing day, QIB, non
100
16000 institutional and retail portion having subscribed 1.02x, 3.92x and 4.82x respectively.
80
14000 (BS)
60
12000 • Tata Elxsi and A Squared Entertainment have signed a MoU to form a JV company
40 10000
to create, develop, and distribute original brands, including animated entertainment and
20 8000
digital gaming for children. (BS)
0 6000
• Delhi based PE firm Avigo Capital Partners plans to sell 40% stake in Spykar Lifestyle
Jul-09

Jul-10

Dec-10
Jan-09

Jan-10
Oct-09

Oct-10
Apr-09

Apr-10

for about Rs800m. (ET)

BSE Volume (INR Bn) SENSEX

HDFC Securities Research is also available on Bloomberg HSLB <GO>

 Daily Note
Institutional Research
From the Blogosphere

Safe Haven: Precious Metals and Stocks Converging to Top Together in

January (Source)
In recent articles and forecast updates for my subscribers, I have been preparing
them for a top in Precious Metals and US Markets around Mid January. We may
have already seen the intermediate top in Gold and Silver recently, and the SP
500 and US markets are not far behind. There are a few factors I look at to
forecast pivot tops and bottoms consistently and a little ahead of the curve when
my crystal ball is clear. In the case of Gold, we see a really muddy chart pattern
over the last several weeks that to me can only be read as toppy after a near
$390 rally off the February lows this year. There are no clear Elliott Wave
patterns anymore over the past few weeks, and the recent drop from $1422 to
the $1360 ranges also doesn't compute well for me if I'm a bull. I have been on
the long side of Gold since February of 2010, with the one intermittent bearish
call I made in June before a huge drop. It looks like now is a good time for Gold
and Silver to pause in the long uptrend, which still has about 3-4 years remaining
if I'm right. This next pullback is likely to take Gold down to $1270-$1280 and
then I will assess from there the next direction and price action. The SP 500 as I
have outlined near year end 2010 is in the final stages of the advance from the
Summer lows of 1010 on the SP 500 on July 1st. The Fibonacci and wave
relationships then have been quite symmetrical and I see no difference on this
final leg up. The difficulty is assessing whether this final 5th wave to the upside
will extend past my 1285 targets and run to 1315, or truncate just below and
begin the correction. I am looking for about 105 points SP 500 correction from
the 1285-1315 topping areas over 7-10 weeks.

Fortune: Is Fannie bailing out the banks? (Source)

Financial stocks just caught fire. Someone must be getting bailed out, right? Why
yes, say critics of the giant banks. They charge that Monday's rally-stoking
mortgage-putback deal between Bank of America (BAC) and Fannie Mae and
Freddie Mac is nothing more than a backdoor bailout of the nation's largest
lender. It comes courtesy, they say, of an administration struggling to find a fix
for the housing market while quaking at the prospect of another housing-fueled
banking meltdown. Monday's arrangement, according to this view, will keep the
banks standing -- but leave taxpayers on the hook for an even bigger tab should
a weak economic recovery falter. Sound familiar? "The administration is trying to
weave a path between two bad alternatives," said Edward Pinto, a resident
scholar at the American Enterprise Institute. Pinto says truly holding BofA
responsible for all the mortgage mayhem tied to its 2008 purchase of subprime
lender Countrywide would likely drive it into the arms of the Federal Deposit
Insurance Corp., which has enough problems to deal with. Though BofA would
surely dispute that analysis, it's easy enough to see where the feds don't want
that outcome. But BofA's many problems aren't the only reason for taking
Monday's deal with a grain or two of salt. Critics also question the timing of the
settlement, which comes on the heels of a court setback for the banks and a new
legal challenge from a big investor. They wonder, given the huge sums being
spent to prop up Fannie and Freddie, why the companies didn't get better terms.
But how sharp is Freddie if all it can do is squeeze a $1.28 billion payment out of
a giant customer in exchange for relinquishing fraud claims on $117 billion worth
of outstanding loans? The very best its million-dollar executives can do is claw
back a penny on each bubbly subprime dollar?

Page | 2
 India
All is well except OIL

The Past, The Present and The Future

Sameer Narang
sameer.narang@hdfcsec.com
91-22-6171 7327
 Key Takeaways

Oil – A Structural Problem

Imports – The bigger risk

India Macro: How it has changed

The Way Forward

January, 2011 2
Key takeaways

• India’s economy is one-fourth the size of China’s and Japan’s, however, crude
oil imports in volume are 75% and 82% that of China and Japan respectively
• Higher oil prices, imply higher fiscal deficits and inflation. Partial increase in
diesel prices is inevitable since under-recovery of Rs.6/litre on diesel is not
sustainable for long
• Financing the oil import bill will be the key risk for the Indian economy. In 2011,
India’s net import bill will be higher than that in 2008. In 2007-08, ECBs/FCCBs
and FII flows were strong enough. In 2011-12, FII and FDI inflows will not be
enough
• Interest rates will continue to harden with RBI raising rates frequently to
counter spiraling inflation

January, 2011 3
 Key Takeaways

Oil – A Structural Problem

Imports – The bigger risk

India Macro: How it has changed

The Way Forward

January, 2011 4
Oil: A Structural Problem
India’s GDP is one-fourth India’s oil imports are
the size of China three-fourth that of China

Europe 16.0 Europe 9,844

US 14.5 US 8,849

China 5.3 China 3,992

Japan 5.1 Japan 3,545

Crude imports, 000
India 2,926 barrels per day
India 1.4 GDP, US$ tn

- 5.0 10.0 15.0 20.0 0 5,000 10,000 15,000

Source: BPSR, HDFC Sec Institutional Research Source: BPSR, HDFC Sec Institutional Research

India’s GDP is one-fourth the size of China’s and Japan’s, however, crude
oil imports in volume are 75% and 82% that of China and Japan
respectively. Compared to Europe and US, the situation is no better

January, 2011 5
Oil: A Structural Problem
India’s poor trade balance At US$ 100 barrel, the
is led by oil imports problem will get even worse

China 3.5% China -2.6%

Japan 1.8% Japan -2.5%

Europe 0.1% Europe -2.2%

US -4.4% Net impact after

oil exports will US -2.2%
be (-) 5.5%
India -8.1% India -7.6%

-10.0% -5.0% 0.0% 5.0% -10% -5% 0%

Net exports to GDP Crude imports to GDP
Source: Bloomberg, RBI Source: BPSR, HDFC Institutional Research

India’s trade and crude oil deficit stand out in relation to other large
economies. Higher oil prices, imply higher trade and fiscal deficits

January, 2011 6
Higher the oil prices, higher the inflation
Crude Oil Petrol Mumbai Price (RHS)
WPI (LHS) FPL (RHS)
US$ per barrel Rs. Per litre
160 70 12% 25%

140 10% 20%

60
120 15%
50 8%
100 10%
40 6%
80 5%
30 4%
60 0%
20 2%
40 -5%
20 10 0% -10%
0 0 -2% -15%
Oct-03

Oct-04

Oct-05

Oct-06

Oct-07

Oct-08

Oct-09

Oct-10
Apr-09
Apr-03

Apr-04

Apr-05

Apr-06

Apr-07

Apr-08

Apr-10

Oct-10
Oct-03

Oct-04

Oct-05

Oct-06

Oct-07

Oct-08

Oct-09
Apr-09
Apr-03

Apr-04

Apr-05

Apr-06

Apr-07

Apr-08

Apr-10
Source: Bloomberg, IOC Source: OEA

Higher oil prices will strain India’s government finances

and put upward pressure on inflation

January, 2011 7
Drag on fiscal prudence and inflationary

1970-71
1973-74
1976-77
1979-80
1982-83
1985-86
1988-89
1991-92
1994-95
1997-98
2000-01
2003-04
2006-07
2009-10
Crude oil price (US$/barrel) 70 80 100 120 140
PDS Kerosene, mn kl 12 12 12 12 12
LPG, mn cylinders 788 788 788 788 788
0.0%
Under Recoveries
-1.0%
PDS Kerosene, Rs./ Ltr 14 18 24 31 38
-2.0% Domestic LPG, Rs./cylinder 171 209 286 363 440
-3.0% Total under recovery
-4.0% PDS Kerosene, US$ bn 3.7 4.8 6.4 8.3 10.1
-5.0% Domestic LPG, US$ bn 3.0 3.7 5.0 6.4 7.7

-6.0% Total under recovery US$ bn 6.7 8.5 11.4 14.6 17.8

-7.0% Source: PPAC, HDFC Sec Institutional Research

-8.0%
In 2009-10, India consumed 56.3 m tons of diesel.
-9.0% At an under-recovery rate of Rs.2.5 - 3 per litre
-10.0% this will translate into an additional under
Fiscal deficit as % GDP recovery burden of US$ 3.5 – 4.2 bn

Source: Budget Documents

A large part of fuel under-recoveries will continue to be financed by OMCs and

upstream oil companies (33% each). In the next few years, planned support for
right to food and education bill will lead to higher strain on government finances
January, 2011 8
Can oil prices go down? Unlikely
% of incremental demand :
000 barrels 2000 to 2009
1970 1980 1990 2000 2009
per day

North America
North America 16,612 20,012 20,206 23,548 22,826
Europe
South America 2,157 3,391 3,661 4,855 5,653
Other Asia Pacific
Europe 18,628 24,389 23,473 19,577 19,372

Middle East 1,165 2,050 3,493 4,838 7,146 Africa

Africa 732 1,386 1,997 2,484 3,082 South America

India 392 643 1,211 2,254 3,183 India 12%

China 559 1,694 2,323 4,772 8,625
Middle East 30%
Other Asia
5,463 8,004 10,328 14,100 14,190
Pacific China 50%
World 45,707 61,569 66,693 76,428 84,077
-20% 0% 20% 40% 60%
Source: BPSR, HDFC Sec Institutional Research
Source: BPSR, HDFC Sec Institutional Research

US demand has been falling since 2008. What will happen to oil prices when US
starts consuming once more?
January, 2011 9
India’s oil bill going forward
Oil consn, m tons India's oil import bill (ex - oil exports)
Oil price, US$ per barrel (RHS) US$ bn
140
M tons US$ per barrel
125
200 140
120 113
180 102
120
160 100
89
140 100
80 76 76
120 80
100 60 51
80 60 44
60 40
40
40
20 20
20
- - -

2011

2012
2007

2008

2009

2010

2013

2014
2011
2007
2008
2009
2010

2012
2013
2014

Source: Ministry of Petroleum, RBI, HDFC Sec Source: RBI, HDFC Sec Institutional Research
Institutional Research

January, 2011 10
 Key Takeaways

Oil – A Structural Problem

Imports – The bigger risk

India Macro: How it has changed

The Way Forward

January, 2011 11
Gold and Oil are driving India’s imports

Exports Imports Trade deficit (RHS) Gold Oil imports Others

% of GDP
300 US$ bn 0
4.0%
200 -50

-29
-38
2.0%

-40
-45
-47
-54
-55
-56
-66
100 -100
0.0%

-85
0

-123
-2.0% -150

-160
-100 -4.0% -200

-200
-200 -6.0% -250
-300 -8.0%

-269
-300
-400 -10.0%

2009-10 -308
-350

2008-09 -326
-500 -12.0% US$ bn

1994-95
1995-96
1996-97
1997-98
1998-99
1999-00
2000-01
2001-02
2002-03
2003-04
2004-05
2005-06
2006-07
2007-08
2010-11f
1992-93
1990-91

1994-95
1996-97
1998-99
2000-01
2002-03
2004-05
2006-07
2008-09

Source: RBI Source: RBI

India’s merchandise trade deficit likely Since 1994-95, India’s gold imports are up
to be US$ 132.8 bn and US$ 163.5 bn by 41 (x), oil by 15 (x) and non-oil by 10 (x).
in 2010-11f and 2011-12f India’s GDP has increased by 6 (x)

January, 2011 12
 And how has India been financing it?

Software exports Remittances Capital A/c Capital Account

200 US$ bn 187
9.3 15.4
167
India’s capacity to 11.8

2007-08
150 absorb inflows has
increased manifold; 29.6 FDI
bodes well for
104 41.9
impending outflows 96 FII
100 on oil imports
72
56
Loans
2.1
50 36
40
25
29 Banking
19 17 17 18
9 8 8 10 12 8 12.2 capital
19.7

2009-10
0
Others
2003-04

2005-06
1990-91
1991-92
1992-93
1993-94
1994-95
1995-96
1996-97
1997-98
1998-99
1999-00
2000-01
2001-02
2002-03

2004-05

2006-07
2007-08
2008-09
2009-10

32.4

Source: RBI, US$ bn

Source: RBI
Note: FII includes other portfolio investments

January, 2011 13
Foreign flows from and to India
Current A/c Capital A/c CAD (RHS) US$ bn Transfers Software Others
US$ bn Current A/c deficit to GDP 120
120 5.0% 100 Current A/c
80
100 4.0% 60 inflows
80 3.0% 40
20
60 2.0% 0
40 1.0% -20
-40

1990-91
1992-93
1994-95
1996-97
1998-99
2000-01
2002-03
2004-05
2006-07
2008-09
20 0.0%
0 -1.0%
-20 -2.0%
-40 -3.0% US$ bn
Foreign Invest Borrowings Others
-60 -4.0% 120
-80 -5.0% 100
80
60 Capital A/c
2010-11f
1990-91
1992-93
1994-95
1996-97
1998-99
2000-01
2002-03
2004-05
2006-07
2008-09

40 inflows
20
0
-20
Source: RBI -40
1990-91
1992-93
1994-95
1996-97
1998-99
2000-01
2002-03
2004-05
2006-07
2008-09
India’s current account deficit likely to be US$
47.9 bn and US$ 70.6 bn in 2010-11f and 2011-12f
Source: RBI

January, 2011 14
India key numbers
US$ bn 2007-08 2008-09 2009-10 2010-11F 2011-12F
GDP growth 9.2% 6.7% 7.2% 8.5% 8.5%
Exports 163 185 177 215 261
Imports 251 304 279 348 424
Trade deficit (89) (118) (102) (133) (163)
Invisibles 75 90 79 85 93
Remittances 42 45 52 55 60
Software 37 43 48 53 58
Others (5) 2 (21) (23) (26)
CAD (17) (29) (23) (48) (71)
Capital Inflows 108 7 66 73 73
FDI 15 17 20 20 22
FII 30 (14) 32 34 27
Others 63 4 14 19 24
Rs./US$ 40.1 45.9 47.4 45.1 -
Note: FII includes other portfolio investments

Financing the oil import bill will be the key risk for the Indian economy. In 2007-
08, ECBs/FCCBs and FII flows were strong enough. In 2011-12, FII and FDI
inflows will not be enough

January, 2011 15
Better yet: Open up more sectors…
Top 10 sectors for FDI Worst sectors for FDI
FDI since April FDI since April 2000,
Sector % of total Sector
2000, US$m US$ m
Services 20.8% Defence 0.1
25,668
Computer software and Boilers and steam generating
8.4% 10
hardware 10,406 plants

Telecom 8.1% Coal production 16

9,988
Housing, real estate 7.3% Timber 20
8,996
Construction 6.8% Sugar 42
8,385
Power 4.3% Raliway related components 110
5,356
Automobile 4,776 3.9% Fertilisers 121

Metallurgical 4,039 3.3% Earth moving machinery 134

Petroleum 3,191 2.6% Glass 145

Chemicals 2,664 2.2% Agricultural machinery 150

Source: DIPP Source: DIPP

January, 2011 16
 Key Takeaways

Oil – A Structural Problem

Imports – The bigger risks

India Macro: How it has changed

The Way Forward

January, 2011 17
India: The last few decades

13% 14% 15% 14% 13% Community, personal, social

services
7% 11%
13% 15% 17% Finance, ins, real estate & bus
services
17%
18% Trade, hotels, transp. & comm.
22% 25%
7%
2% 6% 26% Construction
2%
14% 6%
15% 2% 8%
2% 8% Elect, gas & water supply
2%
3% 15% 2%
15% Manufacturing
2% 16%
38% 3%
31% 2% Mining
25%
19% 15%
Agriculture

1980-81 1990-91 1999-00 2004-05 2009-10

GDP What changed in 2000s

5.6% 5.7% 5.8% 8.5% particularly since 2004-05?
growth
Source: CSO
January, 2011 18
India: What changed — Investments

• Between 2004-05 and 2009-10, India has grown at an average growth rate of 8.5%.
This has been the highest growth rate achieved by India in any five year period
• So what changed for India during this period?
• What changed?
• Investment: Investment rate in the economy jumped to 35.0% from 24.4% in
1990s and 20.8% in 1980s. Most of this was led by private corporate sector
• Savings: Investments are financed by domestic savings – mostly by
household sector (75% of domestic savings). Insurance has become a
preferred mode of savings: share in financial savings has gone up from 8.4%
(70s) to 16.5% (2000s)
• Fiscal Deficit: Fiscal deficit declined to an average of 4.8% to GDP in 2000s
much lower than 7.1% in 1980s. Lesser crowding out meant bank credit grew
by 22.4% in 2000s

January, 2011 19
Investments accelerated from 2004-05

% of GDP Capital Formation by Sectors Capital Formation by Sectors

40.0% 40.0%
HH Pvt Public HH Pvt Public
35.0% 35.0%
Share of Private
30.0% Share of Public 30.0% Investment is high
Investment is high
25.0% 25.0%
20.0% 20.0%
15.0% 15.0%
10.0% 10.0%
5.0% 5.0%
0.0% 0.0%

2002-03
1993-94
1994-95
1995-96
1996-97
1997-98
1998-99
1999-00
2000-01
2001-02

2003-04
2004-05
2005-06
2006-07
2007-08
2008-09
1974-75
1950-51
1953-54
1956-57
1959-60
1962-63
1965-66
1968-69
1971-72

1977-78
1980-81
1983-84
1986-87
1989-90
1992-93

Source: CSO
Source: CSO

Private corporate investments are fueling growth…In 2003-04, private corporate

investment was 6.8% of GDP which increased to 15.9% of GDP in 2007-08

January, 2011 20
Why investments matter?

GDP growth Led by higher

accelerated investments

2000s 7.2% 2000s 30.5%

1990s 5.7% 1990s 23.0%

1980s 5.6% 1980s 20.2%

1970s 2.9% 1970s 19.0% Investment/

GDP growth GDP ratio

0.0% 2.0% 4.0% 6.0% 8.0% 0.0% 20.0% 40.0%

Source: CSO Source: CSO

India’s growth story in 2000s is shaped by rising investments, particularly

since 2003-04 when GDP growth and investment started to accelerate

January, 2011 21
Who financed higher investments?

% of GDP Investment Savinds

HH Pvt corporate Public
40% 35.0% % of GDP
Domestic
35% savings finance 30.2%
30.0% Households
investments and corporates
30%
save the most 6.1%
25% 25.0% 23.0%

20% 19.0%
20.0% 17.2% 3.8%
15%
15.0% 1.7%
10% 1.5% 22.8%
10.0%
5% 17.7%
13.5%
5.0% 11.4%
0%
1951-52
1954-55
1957-58
1960-61
1963-64
1966-67
1969-70
1972-73
1975-76
1978-79
1981-82
1984-85
1987-88
1990-91
1993-94
1996-97
1999-00
2002-03
2005-06
2008-09
0.0%
1970s 1980s 1990s 2000s
Source: CSO
Source: CSO

India’s investments have been largely financed from domestic savings, that
too from households and private corporate sector

January, 2011 22
Structure of Household savings changed
Financial savings of
households
Financial Physical

4.4% 4.7%
Currency
13.5%
44%

1970s
51% 53% 18.8%
60% Deposits

50.2%
8.4% Life
Insurance

PPF
56% 5.8% 10.2%
49% 47% 9.0%
40% Govt
Savings

2000s 12.0% Others

1970s 1980s 1990s 2000s 16.5% 46.6%

Source: CSO

Share of life insurance in household financial

Source: CSO
savings doubled in 2000s from 1970s

January, 2011 23
Lower inflation, interest rates and deficit
• Inflation: Inflation in 2000s has averaged at 5.3%, lowest in the last four decades,
particularly led by lower primary and manufacturing inflation

• Interest rates: Deposit and lending rates have been the lowest in the last four
decades. Deposit rates have fallen by as much as 590 bps and lending rates by
430 bps. Real return on deposits is positive because of lower inflation

• Taxes: Government revenues are largely driven by direct taxes. In 2009-10, as

much as 61% of government revenues came from direct taxes. In 1991-92, this
was as low as 20%

• States: Amongst the states, Haryana, Gujarat, Chhattisgarh and Bihar were the
best performing states with each one of them growing at more than 8% in the last
decade

January, 2011 24
Inflation in 2000s is lower

WPI inflation is declining Prim FPL Mfrs

2000s 5.3% 2000s 1.3% 1.4% 2.7%

1990s 7.7% 1990s 2.0% 1.4% 4.3%

1980s 8.0% 1980s 2.5% 1.0% 4.5%

1970s 9.0%
1970s 2.8% 1.3% 4.9%

0.0% 2.0% 4.0% 6.0% 8.0% 10.0%

Source: OEA Source: OEA

2000s has been the best decade for inflation. 1980s and 1970s saw much
higher primary and manufacturing inflation due to government controls,
higher government spending and oil price hikes

January, 2011 25
What’s the role of the government?
Government
expenditure Financed by deficit
driving growth spending

2000s 13.3% 2000s 4.8%

1990s 12.4% 1990s 6.1%

1980s 17.3% 1980s 7.2%

1970s 14.7% 1970s 4.9%

Fiscal deficit to GDP
Expenditure growth

0.0% 5.0% 10.0% 15.0% 20.0% 0.0% 2.0% 4.0% 6.0% 8.0%
Source: Budget Documents Source: Budget Documents

Government spending did accelerate in 1980s backed by huge fiscal

deficits, but was unable to kick-start the economy and was inflationary

January, 2011 26
Growth driver: Industry and Credit

Industrial growth Higher credit

better than 1990s; but due to lesser
not as high as 1980s crowding out

2000s 7.0% 2000s 22.4%

1990s 6.3% 1990s 15.9%

1980s 7.3% 1980s 16.8%

1970s 4.6% 1970s 18.5%

GDP growth Credit growth

0.0% 2.0% 4.0% 6.0% 8.0% 0.0% 10.0% 20.0% 30.0%

Source: CSO Source: RBI

1980s government crowded out the credit available in the market, but first
round of decontrols helped in powering India’s industrial sector

January, 2011 27
Borrowing costs lowest in 2000s
SBI advance rate Call money 5 yr deposit rate

11.3%
2000s 2000s 7.4%
5.6%

15.6%
1990s 1990s 11.5%
11.5%

16.5%
1980s 1980s 10.5%
9.5%

14.1%
1970s 1970s 9.6%
9.3%

0.0% 5.0% 10.0% 15.0% 20.0% 0.0% 5.0% 10.0% 15.0%

Source: RBI Source: RBI

Lower borrowing costs are led by lower deposit rates. Private corporate
earnings increased with lower interest rates and corporate sector is willing
to borrow at lower rates
January, 2011 28
Deposits and real rate of return

Growth in deposits with banks Real return on deposits

2000s 18.7% 2000s 2.1%

1990s 17.2% 1990s 3.8%

1980s 18.1% 1980s 2.5%

1970s 20.3% 1970s 0.6%

Deposit growth
Deposit rate – WPI inflation

14.0% 16.0% 18.0% 20.0% 22.0% 0.0% 2.0% 4.0%

Source: RBI Source: RBI, OEA

Bank deposits have not been impacted by lower deposit rates? Since real
rate of return has been positive and branch penetration has multiplied

January, 2011 29
 Key Takeaways

Oil – A Structural Problem

Imports – The bigger risks

India Macro: How it has changed

The Way Forward

January, 2011 30
Higher imports and current a/c deficits
• Trade: Since 2001-02, India’s exports have increased by 19% and imports have
increased by 23.5%. Oil imports have increased by 25.6% and gold imports by
25.9%. In 2009-10, India’s merchandise deficit increased to (-) 8.1% of GDP

• Current Account: India had a current account surplus of 2.3% of GDP in 2003-04.
Since then, surplus has turned into a record deficit (CAD). In 2010-11, India’s
CAD will be (-) 3.1% increasing to (-) 4.0% in 2011-12

• Capital Account: India’s US$ 48 bn CAD in 2010-11 will be financed from US$ 73
bn worth of capital account receipts. Most of this will come in the form of FII
inflows. In 2007-08, most of the flows were in the form of FCCBs/ECBs and FII
flows. FDI inflows have been stable but need a step-up

January, 2011 31
Rising import bill which is getting worse
• India imports 2.9 mn barrels of crude oil per day. Compared to this, US and China
import 8.8 mn (3x) and 3.9 mn (1.3x) barrels of crude oil per day. US economy is
11x that of India and China is 3.8x of India’s size.

• Since 2000, as much as 82% of incremental oil demand is from China (50%),
Middle East (30%) and India (12%)

• A pickup in global growth (EM and West) in 2012-13 will imply even higher
demand for oil

• Increase in oil prices by US$ 10 per barrel imply additional gross outflow of US$
10.5 bn every year. Net outflow will be US$ 7.5 bn

• Volatility in capital outflows implies that rupee will remain volatile and not
appreciate much from the current levels

• Government deficit and inflationary pressures will surmount in the economy.

Safeguarding macro risks will require more foreign inflows

• Government should encourage more FDI. Since April 2000, ten sectors have
attracted 2/3rd of FDI inflows — services (20.8%) and computers (8.8%)

• Encourage inflows in retail, defence, railways…. Most importantly stress on

regulation rather than piecemeal intervention
January, 2011 32
Who will finance the next decade?

% of households with Urban % of households with

Rural access to banking services
access to banking services

In urban India, 1 in 2 households have a bank or a post office account. Compared to

this, in rural India 1 in 3 households have access to banking services

January, 2011 33
Urban deposit dependence will continue

Rural Semi-Urban Urban Metros % of Deposits

100% Pvt Sector
% of Deposits
Banks
100%
80%
80% SBI and its
Associates
60% 60%
40% Nationalised
40%
20% Banks

0% 20%
Regional
Nationalised
SBI

India
Regional Rural

Foreign Banks
Pvt Banks

Rural Banks
0%
Banks

Banks

Rural

India
Urban
Urban

Metros
Semi-
Foreign
Banks

Source: RBI
Source: RBI

Rural deposits are insignificant. Most of the market is controlled by PSU banks
and RRBs. Lower rural incomes and penetration have led to much lower
deposit accretion. Not likely to change much. So which banks will do well?

January, 2011 34
Infrastructure boost from government

Tax Revenues: 1991-92 Tax Revenues: 2001-02 Tax Revenues: 2009-10

3% 2%
17% 20%
9%
17% 22% Income Tax Income Tax
33% Income tax 14%
Corp Tax Corp Tax
Corp tax
20% Excise Excise
Excise 16%
Customs Customs
Customs 41%
47% 39% Service Tax Service Tax

Central government Central government Central government

revenue = US$ 10.8 bn revenue = US$ 42 bn revenue = US$ 141.9 bn

Source: Budget Documents

If central government’s tax revenues grow by 15% in the next decade, it will
have more than US$ 500 bn to spend. This will accelerate India’s
infrastructure spending. At present, 22.4% of central expenditure goes to
service interest payments, 10.5% to subsidies and 3.9% to pensions

January, 2011 35
India: Geographic spread of growth
HAR 8.9% HAR
GUJ 8.7% MAH
CHH 8.2% PUN
BIH 8.1% KER
KER 7.7% GUJ
ORI 7.7% TNA
HPR
APR 7.4%
KAR
MAH 6.7%
APR
KAR 6.7%
WBE
WBE 6.4%
CHH
TNA 6.1%
ORI
RAJ 6.0%
RAJ
JHA 5.3%
ASS
PUN 5.1% MPR
ASS 5.0% JHA
UPR 5.0% Cagr, 1999-00 UPR Per capita
MPR 3.3% to 2009-10 BIH income, 2009-10

0.0% 2.0% 4.0% 6.0% 8.0% 10.0% 0 20000 40000 60000 80000
Source: CSO Source: CSO
Growth will depend on state level reforms and execution. Bihar, Chhattisgarh and
Orissa have done exceptionally well…
January, 2011 36
 Where will we be in 2015?
Growth trajectory
US$ bn
Sectors FY05-10 FY11-15 3,500
451
Agriculture 3.0% 3.5% 3,000
384
Mining 4.8% 7.0%
2,500 327
Manufacturing 9.3% 9.0%
2,000 279
Elect, gas & water supply 7.4% 8.0% 263
1,500 1,370
Construction 9.0% 8.5%

Trade, hotels, transp.,& comm. 10.0% 9.5% 1,000

Financing, ins, real estate & bus 500

12.1% 10.0%
services
Community, personal social
7.8% 7.5% -
services

FY11
FY10

FY12

FY13

FY14

FY15
GDP 8.5% 8.3%
Source: CSO, HDFC Sec Institutional Research Source: CSO, HDFC Sec Institutional Research

January, 2011 37
Institutional Research

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