Will Budget 2025-26 fulfil promises on fiscal deficit and reforms?

The big question is whether the finance minister will revert to the fiscal consolidation timelines or medium-term projections as provided under the Fiscal Responsibility and Budget Management Act

With less than six weeks to go before Finance Minister Nirmala Sitharaman presents the Union Budget for 2025-26, expectations regarding what she should do for the Indian economy are on the rise. In brief, many industry bodies and leaders expect her to undertake further fiscal consolidation along with measures that could help prop up the economy’s growth. But before taking a close look at all those expectations, it may be appropriate to situate Ms Sitharaman’s forthcoming Budget in a historical context.

 

This will be her seventh consecutive full Budget, and a record in itself. No other finance minister in India has presented seven Union Budgets in a row. In the process, she will beat Chintaman Deshmukh’s record of six consecutive Budgets in the 1950s. In terms of the total number of full Budgets presented, she will still be a Budget behind Morarji Desai and Palaniappan Chidambaram. Desai’s eight Budgets were presented in two different tenures — five in the first and three in the second tenure —  while Mr Chidambaram’s eight Budgets were presented in three different tenures — two in the first, five in the second, and one in the third. And since one should not ignore the gender profile of finance ministers, Ms Sitharaman has already become the longest-serving woman finance minister, leaving Indira Gandhi behind by miles.

 

So, what should one expect Ms Sitharaman to do in her seventh Union Budget? In many ways, this will be an unusual Budget in that it will be judged also by how well she has fared on fulfilling the policy promises made in the previous Budget. Her Budget for 2024-25 stood out, not just for staying true to her declared path of fiscal consolidation and adhering to principles of accounting transparency, but also for making four major policy promises. Tracking those policy promises will be a good way to understand the likely direction of her forthcoming Budget.

 

The first promise was about a slight change in the way the government planned to measure its performance on fiscal consolidation. For 2025-26, she had stated that the Union government would like to bring the fiscal deficit below 4.5 per cent of gross domestic product (GDP). This, she told everyone in July 2024, was in line with the fiscal deficit reduction trajectory she had announced in her 2021-22 Budget. Expect, therefore, a reduction in the fiscal deficit to below 4.5 per cent, perhaps to 4.3 or even 4.2 per cent of GDP in 2025-26. That would amount to a five percentage point reduction in fiscal deficit over a five-year period since the high of 9.2 per cent recorded in the Covid year of 2020-21.

 

The big question is whether the finance minister will revert to the fiscal consolidation timelines or medium-term projections as provided under the Fiscal Responsibility and Budget Management (FRBM) Act of 2003. That is unlikely. Since 2021, she has stayed away from following the requirements of presenting a medium-term expenditure framework statement under this law, citing economic uncertainties and risks. In July 2024, she did not provide the rolling targets for the following two years, citing “continuing unprecedented global uncertainty”, which the government feared would impede its ability to make reasonable assumptions and projections on its receipts and expenditure over the short and medium term.

 

That situation is not likely to change. In its half-yearly expenditure review statement, released last week, the ministry noted that since the presentation of the Budget in July 2024, “global headwinds and associated risks” were yet to abate. Indeed, it noted that the global situation had become even “gloomier due to further escalation of conflict among a set of countries”. In view of this, the government would like to retain a degree of flexibility in conducting its fiscal policy so as to be able to “respond to any fallout from adverse global events.”

 

What could the finance minister do under these circumstances? As indicated in the half-yearly report, she would improve the quality of public spending, which could mean placing greater emphasis on capital expenditure and a closer review of revenue spending, such as subsidies, to ensure they are targeted only at the poor and are less of a drag on public finances. An effective way of reviewing subsidies will be to restrict the scope of the free food scheme for over 810 million people in the country (about 58 per cent of India’s population), which is more than six times the official number of India’s poor. Restricting its scope will free up scarce government resources to be spent on other schemes, including those for improving the social security net for the poor and needy.

 

But more importantly, she could put in place a framework to fulfil the promise she made in July 2024. That promise was to manage the fiscal deficit each year, starting from 2026-27, in a manner that the Union government’s debt stayed on a declining path as a percentage of GDP. The Union government’s debt is estimated at 56.8 per cent of GDP in 2024-25, against the target of 40 per cent.

 

The idea, it seems, is not to give up on providing fiscal deficit projections, but to indicate debt parameters for each of the coming years and align fiscal deficit targets with them. Such use of debt as an anchor for fiscal consolidation will improve both the credibility and feasibility of the fiscal consolidation targets. The Budget for 2025-26 will be keenly watched to see if the government has finalised a detailed plan on executing the new strategy, either through a statement or an amendment to the relevant provisions of the FRBM Act. In any case, the use of global uncertainties and economic risks as a justification for deferring the full enforcement of the provisions of the FRBM Act appears to be losing credibility.

 

The second promise made by Ms Sitharaman in her Budget in July 2024 was about a comprehensive review of the Customs duty structure to rationalise and simplify it for ease of trade, removal of duty inversion, and reduction of disputes. This exercise was to be completed in six months. The forthcoming Budget, therefore, should be expected to unveil the results of such a review of the Customs duty structure. Hopefully, this exercise has been undertaken wisely and after incorporating the views of all the stakeholders. Both export competitiveness and domestic viability of India’s manufacturing sector will be critically dependent on how well this Budget promise is fulfilled.

 

The third promise was quite ambitious. In July 2024, Ms Sitharaman had announced the decision on formulating an economic policy framework to delineate its approach to economic development and outline the scope of the next generation of reforms to facilitate employment opportunities and sustain high growth. The proposed framework for reforms was expected to improve the productivity of factors of production such as land, labour and capital, and facilitate markets and industrial sectors to become more efficient. More importantly, the proposed framework was to be finalised through a joint exercise between the Union and state governments.

 

So far, very little has been heard about the progress towards building the proposed framework. Will the Budget for 2025-26 shed more light on this laudable initiative on reforms in collaboration with states so that key changes in factor-market policies do not remain only on paper?

 

Finally, the fourth promise of Ms Sitharaman’s last Budget was about undertaking a comprehensive review of the Income-tax Act. The objectives of this exercise were to make this law concise and lucid so that tax disputes are reduced and tax certainty is assured. Once again, this promise, if implemented, will improve the government’s record on tax-friendliness and ease of doing business. This may not lead to the return of the much-celebrated Direct Taxes Code, which was promised and then junked. But India’s income-tax laws could certainly become simpler, clearer and less complex. Budget 2025 could take a big step in that direction if it decides to fulfil the promise made in July 2024.