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.