Increasing tax buoyancy is critical and crucial for elimination of revenue deficit to ultimately promote growth given the inflexibility of reducing revenue expenditure
The Union Budget 2025-26 is the second budget of the NDA 3.0 government. It comes against the backdrop of a dramatic uptick in geopolitical risks and tensions, slowdown in economic growth in India measured in terms of real GDP (6.4% in 2024-25 as against 8.2% in 2023-24) and inflation rate measured in terms of combined consumer price index ( CPI-C) at 4.8% for 2024-25 (RBI’s Governor statement on Dec 6, 2024) as against an average 4% in the flexible inflation targeting mandated for RBI. So, this is a bad climate.
If we needed a mood-changer, then look no more beyond the headlines that the budget has grabbed. An important feature is personal income tax reform with a special focus on the middle class. As announced, there will be no income tax payable for income up to Rs 12 lakh per annum under the new regime. The threshold works to Rs 12.75 lakh for salaried taxpayers, due to the standard deduction of Rs 75,000. Furthermore, other slabs and rates have been revised to benefit all taxpayers, resulting in a higher disposable income (income after paying tax) in the hands of households, which will boost consumption, savings and investment.
The focus of the fiscal policy stance as enumerated in the budget includes (a) fostering equitable and sustained growth, (b) tax reform, particularly personal income tax, (c) to increase spending power, (d) increased public capital spending, (e) adapting a “saturation approach” to social welfare and development and more (f) importantly, framing a fiscal consolidation path with an end target, without intermediate targets.
To reach the goals of a vikasit Bharat, firstly, the budget has focused on spurring agriculture growth and building rural prosperity through(a) the Prime Minister Dhan-Dhanya Krishi Yojana,(b)enhanced credit to farmers, (c)high yielding seeds,(d) focus on pulses, by increasing productivity. Secondly, the budget has supported MSMEs with credit cards for micro enterprises, launching of a scheme for the first time entrepreneur, focusing on ease and cost of doing business, facilitating employment for labour intensive sectors and revising the classification criteria for MSMEs in terms of investment and turnover. Thirdly, the budget has focused on promoting export with an export promotion mission. Bharat Trade Net (BTN) as a digital public infrastructure for international trade will integrate with the global supply chain.
The above key features of the budget are welcome steps. However, the fiscal consolidation path outlined in the budget raises question marks.
The budget 2025-26 has outlined for the first time a fiscal consolidation path – “with an end target but without intermediate target”. It is claimed by the authorities that “the aim was to equip the government with requisite operational flexibility so as to respond to exigencies arising at a time of high uncertainty”. Thus, from the fiscal year 2026-27, the endeavour of the government will be to focus on debt to GDP ratio as the fiscal anchor in place of fiscal deficit as a target. This implies that fiscal deficit to GDP ratio of 3% will not be in sight of the government and will likely be breached. Instead, the effort would be to keep the fiscal deficit such that the debt to GDP ratio will be 50 (+/- 1 percent) by March 31, 2031.
In the above context, it is pertinent to note that the budget is an annual exercise which operationalises the fiscal policy of the government with the objective (a) to move the economy to a higher growth trajectory, (b) to lower unemployment and (c) to ensure stability of the Indian economy. The Indian authorities have been following since 2003 a rule based fiscal policy in the mandatory framework of Fiscal Responsibility and Budget Management (FRBM) Act.
In rule based fiscal policy, as the global practice and academic literature tells us, there are three rules viz: deficit rule, debt rule and borrowing rule. While adhering to the deficit and debt rule, the authorities fix the level of deficit and debt as percentage of GDP. In the borrowing rule, the authorities prohibit themselves from borrowing from the central bank by printing money. This is critical self-imposed discipline followed by India since 2003. We have been following these three rules under the FRBM Act (with amendments).
The argument to shift to end-target (Debt-GDP ratio) in place of intermediate target (Fiscal deficit to GDP ratio) builds on “a conscious policy choice” which is “aimed at moving away from a regime characterised by rigid fiscal rules towards flexible fiscal standards.” This follows the argument that “fiscal rules are prescriptive and focus on achievement of numerical targets; fiscal standards are in the nature of general objectives that have to be followed.” (See: Path for Fiscal Consolidation, FY 2026-27 TO FY 2030-31).
Here’s a cautionary note: A rule should not be confused with standard. As alluded to earlier, we need a deficit rule and debt rule. In the Indian context, keeping in view the Indian budgetary practice with a revenue and capital account, the budget should not have a revenue deficit and the government should not borrow to meet the revenue expenditure as it is happening currently.
The Billion Press
(Dr R K Pattnaik is a former central banker and Professor at the Gokhale Institute of Politics and Economics, Pune)
