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.