The government's decision last week to raise prices of diesel, kerosene and cooking gas has brightened prospects of Indian equities . The move has sparked hopes among investors, fretting over the impact of paralysis in policy-making on India's economic growth, that the government may be serious about pushing ahead the next wave of economic reforms, said broking firms.
"The government's decision to hike retail fuel prices in spite of the decline in crude oil prices suggest the government is shaking off its decision-making inertia," said Parul J Saini, strategist, Royal Bank of Scotland. "This should be a positive catalyst for the Indian equity markets," said Saini, in a report.
The Sensex has gained over 5% in the past four trading days. The government announced decision to increase petroleum product prices on Friday evening.
"The move is also a powerful signal to markets that the government is still able to make difficult decisions, in the light of a stalled reform process," said Tushar Poddar and Vishal Vaibhaw of Goldman Sachs. "This move, along with global oil prices coming off and monsoons on track, are positive signs for the economy and for the equity market," they said, in a report.
Analysts perceive India's discussion paper last week, questioning the need for equity caps for foreign direct investment (FDI), as the government's intent to streamline the country's FDI policy.
Investors are hoping that the fuel price increases will result in inflation peaking out over the next few months and signal the end of policy rate tightening by the Reserve Bank of India. Analysts estimate wholesale price inflation will surge 70-100 basis points from 9.06% in May because of higher fuel and cooking has prices.
"From a medium-term perspective, we see the hike in fuel prices as a positive step to incentivise Indian households and companies to ration energy demand, but the near-term inflationary impact," said Sonal Varma and Aman Mohunta of Nomura India, in a report. Economists warn, however, the India's fiscal deficit could widen as the cut in excise and customs duties on diesel and cooking gas will more than offset the benefit of price increases to the government's finances.
"Lower revenue collection owing to slower GDP growth, smaller-than-budgeted disinvestment proceeds, and higher expenditure could potentially push the deficit to 5.8% of GDP, hurting market sentiment, unless the government seeks other ways to raise revenues," said Standard Chartered economists led by Anubhuti Sahay, in a report. India is targeting a fiscal deficit of 5.1% of GDP for 2011-12. Brokers said higher-than-estimated fiscal deficit, especially when the economy is slowing, may not go down well with foreign investors.
