The controversy over the introduction of transaction tax in Budget 2004-05 and the sharp rise in inflation spoilt the sentiment in the Indian bond market. Even the Budget proposal to reduce fiscal and revenue deficits for the current financial year failed to bring cheers to the bond markets. As a result, the yield on the 10-year benchmark bond (GOI 2014, 7.37%) rose to 5.75 per cent on Thursday after hitting a low of 5.70 per cent on the first two trading sessions. Over the week, the yield fell 6 basis points.
The market came to a standstill on Friday, as most market participants refrained from trading to protest against the transaction tax. In Budget 2004-05, Finance Minister P Chidambaram proposed a transaction tax of 0.15 per cent on all exchange-traded securities. Interestingly, a day after the Budget, Ashok Lahiri, chief economic advisor to the government, clarified that the securities traded through the RBI's Negotiated Dealing System (NDS) would be exempt from the transaction tax. However, primary dealers and brokers would be exempt from the tax if they were buying on behalf of their clients. In a bid to abolish the transaction tax, FIMMDA, the money market dealers' association is putting pressure on RBI, asking to mediate in this matter.
Among other Budget highlights, interest rate on small savings schemes remains unchanged and the 6.5 per cent (non-taxable) RBI Savings Bond has been scrapped. Instead, a new scheme for retirees called Senior Citizens Savings Scheme offering an interest of 9 per cent will be introduced.
Tthe week started on a positive note as the Railway Budget proposed a small rise in the railway borrowings for the ongoing fiscal and hold the potentially inflationary freight rates at the same levels. But the sentiment weakened just before the Budget day as the Economic Survey for the last year indicated that interest rates could rise in the future due to an expected rise in the fiscal deficit. Though the survey also anticipated a 7 per cent plus growth for FY 2004-05, the markets didn't pay any attention to it and took the interest rate outlook more seriously. And finally, the all-important Budget took its toll on the markets. Despite all the Budget blues, liquidity remained comfortable with the 7-day repo outstanding at the RBI window remaining over Rs 60,000 crore throughout the week.
Inflation based on the Wholesale Price Index for the week ended June 26, shot up to 6.09 per cent, due to higher prices of coal, diesel, petrol and other lubricants, announced by the government last month. The price of Brent crude also increased to $37.72 per barrel this week from $34.33 per barrel, a week earlier. In the currency market, the rupee appreciated 22 paise against the US dollar to close at Rs 45.66 on Friday. The rupee gained 18 paise on the last day of the week just after the day the Budget was announced.
The daily average volume in the wholesale debt market rose by 17 per cent this week to close at Rs 3,041 crore. However, volumes were close to Rs 430 crore on Friday as most dealers abstained from trading to mark a protest against the proposed imposition of turnover tax.
Outlook
The proposed transaction tax is bad news for the already dampened debt markets, which fear a possible rise in domestic interest rates. The next week might prove to be a testing time for the markets as the broader impact of such tax will be seen if the government stands by its decision. Till then, the only thing the markets can expect is nothing less than the rollback. And not to forget the inflation number.
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