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What the budget does for the fisc

Feb 02, 2025 06:34 AM IST

The budget focuses on fiscal consolidation amidst slow growth and inflation, with increased reliance on income tax collections from wealthy taxpayers.

When it comes to the fisc, the budget’s approach is one of continuity: consolidation continues. The emphasis on capital spending has been preserved. And yet, there are two related details to be flagged.

What the budget does for the fisc
What the budget does for the fisc

First is the intrinsic headwind which the budget faces on account of slow growth and slower inflation. The nominal GDP growth – tax collections and deficit numbers are a fraction of this figure – assumed in this year’s budget is 10.1%. This is despite the fact that the 2024-25 nominal GDP growth ended up almost a percentage point – 9.7% instead of 10.5% – lower than what the July 2024 budget assumed. A lower nominal GDP growth puts clear pressure on fiscal parameters. There are many expenditure heads, such as salaries and pensions or cost of servicing existing debt, which are preordained. This means that the fiscal consolidation exercise becomes more difficult at the very first step and possibly also a self-defeating exercise. Cutting too much on spending in order to meet fiscal targets can end up hurting growth, which, in turn, can only worsen the fiscal situation.

The budget shows that the government has tried to balance the situation. A comparison between the 2024-25 Budget Estimate (BE) and Revised Estimate (RE) numbers is useful to begin this analysis. While RE figures show a 2.2% shortfall compared to BE numbers for overall spending, the shortfall is the biggest (8.3%) on the capital expenditure front. RE numbers on revenue spending excluding interest payments are actually 0.5% higher than BE numbers. The capital spending shortfall is perhaps a result of state elections and monsoon-related disruptions last year. The budget was presented in July, so it ought to have taken into account the time and spending window lost on account of the Lok Sabha elections last year. But capital spending, unlike revenue spending, is easier to postpone and can always be revived. This is what the budget seems to have done this year by giving a BE number of 11.12 lakh crore instead of the 11.11 lakh crore in 2024-25.

The second important piece in the fiscal puzzle is the tax bit. When seen from a macro perspective nothing seems to have changed. The tax-GDP ratio, tax buoyancy (additional tax per unit change in GDP), etc are largely unchanged. But look at the composition of the tax basket and there is a story to be told.

Income tax collections are now significantly greater than corporate tax numbers. This is the third consecutive year this has happened, and the gap continues to increase. The ratio of income tax and corporate tax collections has increased from 1.14 in 2023-24 to 1.33 in 2025-26. Had the government not reduced income tax rates, which it says will cost it 1 lakh crore of potential income tax collections, the number would have been 1.42.

This trend captures an interesting irony within India’s fiscal framework. Most of our income tax collections come from a narrow base of rich tax payers. They have prospered rather than perished in the pre-pandemic formalisation push and post-pandemic recovery. This trajectory has been criticised by many independent economists for its larger implications on economic fortunes of a large number of stakeholders in the Indian economy. But the growing importance of income tax collections in the government’s revenue pool shows that this privileged minority is also becoming an increasingly important source of fiscal buffer. Minus their support to tax collections, things would have been far more difficult not just for the fiscal numbers, but also the poor who are extremely dependent on the government’s welfare spending.

The budget’s ability to achieve its medium-term fiscal policy objective, as outlined in the Statement of Fiscal Policy under the FRBM Act says: “The government would endeavour to keep fiscal deficit in each year (from FY2026-27 till FY2030-31) such that the central government debt is on declining path to attain a debt to GDP level of about 50±1 per cent by 31st March 2031 (the last year of the 16th Finance Commission cycle).”

The document makes it clear that higher levels of nominal growth (hopefully driven by real growth rather than inflation) will more than achieve this objective at much lower levels of fiscal consolidation.

Given the fact that the formal salaried section has been growing at a fast pace and will shed some of its high momentum going forward, the ability to achieve the medium term fiscal target will probably depend on the reforms which the government can push to boost growth even as it uses the income tax cushion to minimise the negative growth impulse of fiscal consolidation.

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