Context: The government’s first full budget in its third term had to balance two conflicting objectives: ensuring macroeconomic stability amid global challenges while supporting domestic growth.

The Global Economic Backdrop:

• The global financial environment is tightening due to US exceptionalism, rising dollar value, and persistent high US interest rates.
• A new trade war, with the US imposing tariffs on Mexico, Canada, and China, threatens to further destabilize emerging markets.
• Given this backdrop, a conservative fiscal approach was needed to ensure India’s resilience.

Domestic Economic Challenges:

• Growth in India has slowed, and the ongoing earnings season suggests a delayed recovery.
• A global slowdown could further impact domestic growth, making fiscal support essential.
• The trade-off was between fiscal prudence and allowing for increased government spending. 

Fiscal Consolidation:

• Strategy:
  • The government opted for conservatism, setting the fiscal deficit at 4.8% of GDP, lower than expected.
  • The budget outlines a further reduction to 4.4% of GDP next year, continuing a trend of fiscal consolidation.
  • A buffer against external shocks should be provided by fiscal credibility, a healthy current account deficit and foreign exchange reserves, and inflation that is expected to return to 4%.
  • Strong fiscal discipline is expected to enhance macroeconomic stability and credibility.
• Costs of fiscal conservatism:
  • Lower fiscal deficits constrain government spending in the coming months.
  • Public spending (excluding interest payments) grew by 23% last quarter but will have to slow to 8% in the last quarter of the fiscal year.
  • A reduction in government spending may negatively impact economic growth, shifting the responsibility to monetary policy.

Tax Cuts and Their Trade-offs:

• The budget introduced a tax cut worth 0.3% of GDP to boost urban consumption.
• However, fiscal consolidation largely relied on revenue expenditure compression rather than tax revenue augmentation.
• Lower expenditure multipliers might impact overall economic stimulus.

The Role of Tax Buoyancy:

• Tax buoyancy dropped from 1.4 in 2023-24 to 1.1 due to slower growth.
• The budget assumes a higher tax buoyancy of 1.3, which may not materialize.
• If tax targets are missed, policymakers should allow the deficit to widen rather than further cutting expenditures.

Public Investment and Growth:

• Central capital expenditure has nearly doubled over four years but fell short of targets this year.
• State capital expenditure is also lagging as states prioritize subsidies.
• Maintaining public investment is crucial for sustaining growth and requires enhanced execution capacity.

Way Forward:

• The need for structural reforms:
  • Fiscal stimulus has been the primary driver of growth over the last five years.
  • Future fiscal space will shrink, necessitating a shift toward private investment.
  • Policy measures must provide demand visibility and boost investor confidence ("animal spirits").
• Reform agenda for sustainable growth:
  • The Economic Survey 2024-25 advocates for deregulation and liberalization to lower transaction costs and enhance global competitiveness.
  • Employment-focused reforms are needed, particularly in labour-intensive sectors.
  • Investing in health, education, and skilling is essential to boost labour-intensive growth and increase consumption.
  • Industrial policy should prioritize labour-intensive industries and rationalize labour laws.

Conclusion - A Reform Stimulus Over Fiscal Stimulus:

• The budget signals that India lacks space for further fiscal stimulus.
• The solution lies in a reform stimulus to attract private investment and sustain long-term growth.
• Balancing macroeconomic stability with growth requires structural changes, especially in a volatile global economic environment.

Q1. What is the theme of the Economic Survey 2024-25?

Ans. The Economic Survey 2024-25 outlines the necessity for driving synergy between the government, private sector, and academia to create a societal infrastructure that harnesses the power of innovation for inclusive growth.

Q2. What is the key highlight of the Union Budget 2025-26?

Ans. Finance Minister Nirmala Sitharaman presented the Union Budget 2025-26, outlining what she called a roadmap for economic growth, social welfare, and technological advancement.

Q3. What do you mean by "animal spirits" in economy?

Ans. "Animal spirits" is an economic term that refers to the influence of human emotions on economic decisions. It was coined by British economist John Maynard Keynes in his 1936 book The General Theory of Employment, Interest, and Money. 

Q4. What is the significance of labour-intensive industries for the Indian economy?

Ans. Labour-intensive industries are highly significant for the Indian economy as they provide a major source of employment for the large, relatively unskilled workforce, and contribute to inclusive growth.

Q5. What are the government’s priorities to boost the Indian economy?

Ans. Speedy implementation of labour codes, providing social security to informal workers, especially gig and platform, and bringing transformative policies would be the government's priority in 2025 to empower all and boost the economy. 

Source:IE

Context

• The Budget 2025-26 presents significant challenges for the Narendra Modi government in its third term, particularly in addressing slowing economic growth, income disparity, and declining domestic demand.
• While the government attempts to balance fiscal consolidation with populist measures, contradictions emerge in its policies, particularly concerning corporate incentives, tax concessions, and social welfare spending.
• Now it becomes imperative to critically evaluate the key aspects of the budget and its potential implications.

An Analysis of Economic Slowdown and Weak Demand Highlighted by Economic Survey 2024-25

• Declining Consumption Demand
  • Rising Income Disparity
    • The Economic Survey explicitly acknowledges that income disparity is increasing, leading to subdued demand.
    • The wealth generated in the economy has disproportionately benefited large corporations, whose profits have reached a 15-year high, while wage growth has been moderate, and job creation has remained tepid.
    • This imbalance means that while businesses are earning more, the purchasing power of the lower- and middle-income groups has not increased significantly, leading to weak demand for goods and services.
  • End of Credit-Fuelled Consumption
    • In recent years, credit expansion, particularly in the form of personal loans and easy financing options, temporarily boosted household consumption.
    • However, this model of growth is unsustainable in the long run.
    • As borrowing increases, so do household debt burdens, leading to a slowdown in discretionary spending.
    • With interest rates remaining relatively high and consumers becoming more cautious about debt, this source of demand growth is now weakening.
  • Inflationary Pressures
    • Persistent inflation in essential commodities such as food and fuel has further reduced real disposable incomes.
    • While headline inflation may appear under control, core inflation (which excludes volatile items like food and fuel) remains a concern.
    • Higher living costs mean that consumers prioritise essential spending over discretionary purchases, reducing demand for industries such as automobiles, consumer durables, and real estate.
• Declining Public Capital Expenditure
  • Lower-than-Expected Capital Expenditure Growth
    • While the government had initially projected a 20% increase in effective capital expenditure, actual spending rose by only 5% in nominal terms, which translates to a decline in real terms when adjusted for inflation.
    • This is concerning because public infrastructure investment typically has a high multiplier effect, meaning that for every rupee spent, the economy benefits multiple times over.
    • A slowdown in government investment results in weaker job creation, lower industrial activity, and reduced private sector confidence.
  • Fiscal Conservatism and Revenue Constraints
    • Despite having access to exceptional revenue sources, such as dividends from public sector enterprises, spectrum sales, and Reserve Bank of India (RBI) surpluses, the government has chosen a path of fiscal restraint.
    • Lower-than-expected tax revenues and a commitment to reducing the fiscal deficit have led to spending cuts, especially in capital-intensive sectors.
    • This approach, while aimed at ensuring macroeconomic stability, may have short-term negative effects on growth.
• Weak Private Investment and Corporate Behaviour
  • Corporate Profits vs. Investment
    • Although corporate profits have surged to a 15-year high, this has not translated into increased capital investments.
    • Instead of expanding production or creating new jobs, many companies are holding onto their cash reserves, distributing dividends, or engaging in share buybacks.
    • This suggests that businesses are uncertain about future demand, which discourages new investments in infrastructure, manufacturing, or employment.
  • Global Uncertainty and Weak External Trade
    • Global economic conditions have also contributed to lower private investment
    • With sluggish global growth, geopolitical tensions, and policy shifts in major economies (such as the U.S. under the post-Trump administration), Indian exports are not expected to be a major driver of growth.
    • This leaves the domestic economy with fewer external growth engines, further necessitating an increase in domestic demand and investment, something that is currently missing. 

Key Aspects of Budget 2025-26 to Address the Slowdown and Their Implications

• Tax Concessions and Middle-Class Appeal
  • A key feature of the budget is the increase in the tax-free income threshold from ₹7 lakh to ₹12.75 lakh, providing substantial relief to middle-income earners.
  • While this move strengthens the government’s appeal among the middle class, it comes at a cost—a projected loss of ₹1 lakh crore in direct tax revenues.
  • This decision underscores the government’s focus on vote-bank politics rather than broader economic reforms.
  • To compensate for this revenue loss, the government has committed to reducing the fiscal deficit from 4.8% of GDP in 2024-25 to 4.4% in 2025-26.
  • However, this commitment limits the scope for increased government expenditure, further constraining economic recovery.
• Corporate Incentives and Income Disparity
  • The budget reflects a contradictory stance on corporate incentives and economic growth.
  • On the one hand, the Economic Survey acknowledges that rising income inequality weakens demand and investment, yet the budget continues to favour large corporations through tax concessions and regulatory reforms.
  • For example, the government believes that reducing corporate tax burdens and easing regulations will boost private investment.
  • However, with stagnant wages and underutilized industrial capacity, this assumption may not hold.
  • The paradox is evident: while acknowledging that rising profits at the expense of worker earnings harms demand, the budget still bets on corporate-led investment to drive growth.
• Foreign Investment and Risks
  • The budget extends similar incentives to foreign investors, including raising the foreign direct investment (FDI) ceiling in the insurance sector from 74% to 100%.
  • While this move is aimed at attracting more investment, it carries risks—particularly in sectors like insurance, where foreign firms may prioritize profits over consumer welfare.
  • Additionally, the government plans to revise India’s bilateral investment treaty template to be more investor-friendly.
  • This shift could make India more vulnerable to legal disputes with transnational corporations, limiting its policy flexibility in the long run.
  • Given the uncertain global economic climate, relying on foreign investment as a key growth driver appears risky.

Conclusion

• The Budget 2025-26 attempts to balance economic recovery with fiscal discipline, but its contradictions are evident.
• While it acknowledges the need to revive domestic demand and address income disparity, it prioritises corporate incentives and middle-class tax benefits over broader structural reforms.
• Ultimately, the budget reflects a political strategy rather than an economic roadmap, aimed at consolidating middle-class support while maintaining corporate-friendly policies.
• Whether this approach succeeds in reviving economic growth or deepens existing structural issues remains to be seen.

Q1. What is the main reason for the slowdown in India's economic growth?
Ans. Weak domestic consumption demand, declining public capital expenditure, and insufficient private investment.

Q2.  How has income disparity affected consumption demand?
Ans. Rising income disparity has led to stagnant wage growth and weak job creation, reducing purchasing power and slowing down demand.

Q3. Why has public capital expenditure not increased as expected?
Ans.  Fiscal conservatism, lower-than-expected tax revenues, and a focus on reducing the fiscal deficit have limited government spending.

Q4. What is the government's strategy to boost demand in Budget 2025-26?
Ans. Tax concessions for the middle class, corporate incentives, and regulatory reforms to encourage private investment.

Q5. Why is private investment not increasing despite high corporate profits?
Ans. Businesses are uncertain about future demand, leading them to hold onto cash, distribute dividends, or engage in share buybacks instead of expanding production. 

Source:The Hindu

Context

• The Union Budget for FY26 has been presented against a backdrop of both domestic and global economic challenges.
• While India’s economy is currently experiencing a cyclical slowdown, marked by weakening urban consumption, slow job growth, and an investment cycle that is yet to become broad-based, the country’s macroeconomic fundamentals remain strong.
• With geopolitical uncertainty and global trade disruptions looming, the government has taken a pragmatic approach to fiscal management, aiming to sustain economic stability while fostering growth.
• Therefore, it is important to explore the key themes of the budget, including fiscal discipline, personal taxation reforms, capital expenditure (capex) allocations, and structural measures for long-term economic resilience.

The Primary Focus of Union Budget 2025-26: Macroeconomic Stability Amidst Global Challenges

• The second half of FY25 is expected to witness a rebound in Gross Value Added (GVA) growth, core inflation remains benign, and the current account deficit is under control due to strong services exports.
• Unlike many other economies, particularly in Europe and Latin America, India benefits from relative political and economic stability, which bolsters investor confidence.
• Recognising the importance of macroeconomic stability, the finance minister has prioritised fiscal prudence.
• A key highlight of the budget is the reduction in the fiscal deficit target, from 4.8% of GDP in the current year to 4.4% in FY26.
• This move signals the unwinding of the post-pandemic fiscal stimulus, preserving policy space for future needs.
• Additionally, the government has maintained a tight rein on the revenue deficit, projected at 1.9% and 1.5% of GDP for FY25 and FY26, respectively, both lower than pre-pandemic levels.
• This has been achieved through improved revenue receipts and controlled discretionary spending.
• By containing inflationary pressures and reducing fiscal vulnerabilities, India strengthens its case for a potential sovereign credit rating upgrade, which would enhance investor confidence.

Personal Income Tax Reforms and Their Implications

• Boosting Disposable Income and Consumption
  • By reducing the personal income tax burden, the government is putting more money in the hands of middle-class and salaried individuals.
  • This increase in disposable income is expected to translate into higher spending on goods and services, thereby stimulating demand across various sectors.
  • In particular, sectors such as retail, consumer durables, automobiles, and discretionary services (such as travel, entertainment, and hospitality) could see a positive impact.
• Encouraging Investments in Real Estate
  • Beyond direct consumption benefits, the budget introduces a significant tax incentive related to housing.
  • The enhancement of tax benefits for self-occupied properties, allowing individuals to claim tax benefits on two houses instead of just one, is expected to stimulate the real estate sector.
  • Real estate is a highly influential sector in the Indian economy due to its extensive backward and forward linkages.
  • Increased investment in housing leads to higher demand for construction materials such as cement, steel, and bricks, thereby benefiting allied industries.
  • Additionally, real estate development generates employment opportunities for construction workers, engineers, architects, and skilled labourers, leading to broad-based economic gains.
• Potential Risks and Challenges
  • While the reduction in personal income tax has clear benefits, it also presents certain risks and challenges.
  • One key concern is whether the tax cut will lead to a sustainable increase in consumption or if consumers will opt to save the additional income
  • If a significant portion of the tax savings is diverted toward savings rather than spending, the expected stimulus effect on consumption may be weaker than anticipated.
  • Additionally, the revenue forgone due to the tax cuts (₹1 trillion) could create fiscal constraints in the future.
  • The government has sought to offset this loss by controlling discretionary revenue expenditures.
  • However, if economic growth does not accelerate as expected, the lower revenue collection could pose challenges to fiscal management, potentially requiring adjustments in future budgets.

Some Other Key Themes of Budget FY26

• Capital Expenditure and Investment Outlook
  • While some market analysts expressed concerns over the perceived reduction in capital expenditure, a closer examination suggests that this is a temporary shift rather than a structural cut.
  • The revised capex allocation for FY25 was lowered from 3.4% to 3.1% of GDP, largely due to delays caused by the 2024 general elections.
  • However, the government’s disbursement of ₹1.72 trillion in December 2024, the highest-ever monthly capex disbursal, indicates a strong commitment to infrastructure spending.
  • For FY26, the capex budget remains steady at 3.1% of GDP, ensuring policy continuity.
  • Importantly, the capex-to-revenue expenditure (revex) ratio is set to increase to 28.4%, the highest in over two decades.
  • This suggests an emphasis on quality fiscal spending, favouring long-term growth over short-term consumption.
• Sectoral Initiatives and Industrial Growth
  • These include the enhancement of classification thresholds for micro, small, and medium enterprises (MSMEs), the creation of national manufacturing and export promotion missions, and the establishment of an investment-friendliness index for states.
  • Additionally, labour-intensive sectors such as agriculture, leather, toys, tourism, and hospitality have received targeted policy support.
  • By encouraging domestic manufacturing and exports, these measures aim to bolster economic resilience, reduce dependence on imports, and create employment opportunities.
  • The focus on ease of doing business and tax simplification is another noteworthy step that could enhance India’s attractiveness for both domestic and foreign investors.
• The Long-Term Fiscal Strategy and Debt Management
  • Beyond immediate fiscal measures, the budget hints at a long-term fiscal policy strategy.
  • The government plans to transition to a debt-targeting framework from FY27, aiming to reduce central government debt to 49%-51% of GDP by FY31, down from the projected 56.1% in FY26.
  • While this approach allows flexibility in fiscal management, it could also introduce volatility in financial markets, depending on the execution and investor perceptions.

The Economic Survey’s influence

• A holistic feature of FY26 Budget lies beyond the numbers it projects.
• Intangible gains could be reaped, which if implemented and executed well, would boost productivity levels in the economy in the longer run.
• A focus on next generation ease of doing business measures, a simplification of the tax architecture (including various decriminalisation measures), and migration towards a light-touch regulatory framework in the non-financial sector are some of the steps that appear to have been influenced by the Economic Survey.

Conclusion

• The Union Budget for FY26 strikes a careful balance between fiscal consolidation and economic support.
• While addressing immediate concerns such as urban consumption and investment sentiment, it also lays the groundwork for long-term economic resilience through prudent fiscal management, strategic capex allocations, and structural reforms.
• However, the effectiveness of these measures will depend on their execution, particularly in sustaining private sector investments and job growth.

Q1. What is the expected impact of the personal income tax reduction in the FY26 Budget?
Ans. It is expected to boost urban consumption by increasing disposable income, stimulating demand in various sectors.

Q2. How does the Budget aim to support the real estate sector?
Ans. By allowing tax benefits on two self-occupied houses instead of one, encouraging housing investment and mortgage lending.

Q3. What fiscal target has the government set for the fiscal deficit in FY26?
Ans. The fiscal deficit target has been lowered to 4.4% of GDP.

Q4. How does the Budget ensure fiscal discipline despite the tax cuts?
Ans. By controlling discretionary revenue expenditure and maintaining a strong capex-to-revenue expenditure ratio.

Q5. What long-term fiscal strategy is the government planning from FY27?
Ans. A debt-targeting framework to reduce central government debt to 49%-51% of GDP by FY31.

Source:The Hindu