Budget 2025-26, One for the Times

Budget this time, offers a prism to see both the problems facing India and its potential. Growth has slowed. This is partly due to cyclical factors such as the end of post pandemic bounce-back and last year’s elections delaying investments. Finance Minister (FM) Sitharaman’s latest budget is one for the times. It attempts to do what is required in the current context of growth slowdown and global uncertainties heightened by a mercurial dispensation in the US, with some deft balancing of resources and redirection of priorities.

The highlight of the budget is that it has unveiled the largest package of tax cuts in India’s history, amounting to around 0.3% of GDP, to boost consumption mainly by urban middle class. But as usual, if there are two economists, we are sure to have three opinions, if not more! So we have some experts who are quick to point out that putting money in the hands of those at the bottom of the pyramid would have been a more effective way of boosting demand for goods of mass consumption than providing tax breaks to just 2.2% of the adult population of the country which pays income tax. They draw the attention to the fact that outlay on employment generating schemes like MNREGA is stagnant and in fact has declined after reckoning with inflation. It is also true that budget misses out on health of the people. Though there is an increase of slightly over Rs 9000 crores in the healthcare allocation, when adjusted for inflation, the increase is just 3.04% in real terms. Of greater concern is the fact that schemes which contribute to strengthening the public health system and protecting health of the most vulnerable sections of the society, like the National Health Mission, Pradhan Mantri Swasthya Suraksha Yojana (PMSSY), schemes on nutrition and health research have suffered severe cuts.

But given that the government schemes are porous and their delivery at the grassroot level is significantly diluted, the FM would have decided that putting money directly in the hands of the middle class without the intervention of a leaky bureaucracy, would result in greater bang for the buck. The fact that in a situation where fiscal deficit for FY 26 is pegged at 4.4% of GDP and at the same absolute level of FY 25 of about Rs 15.6 lac crores, the FM has sought to work around the fiscal constraint to spur demand by incentivizing household consumption merits appreciation. But the moot point is what could be the impact of the estimated Rs 1 lac crore of consumption boost?

Private Final Consumption (PFCE) is expected to account for 61.8% of India’s GDP in FY 25 as per CSO’s first advance estimate. The value of PFCE in nominal terms is about Rs 200 lac crore. Additional spend resulting from tax saving of Rs 1 lac crore would thus add about just 0.5% to the aggregate consumption. If the tax payers were to spend all of the Rs 1 lac tax savings, that would add 0.5% to the PFCE growth which was 12.4% in FY 25. But the trick is, by concentrating the savings in a relatively small but crucial segment, the propensity to spend at the margin is hiked. As per budget data, individual tax payers paid a total tax of Rs 12.57 lac crores in FY 25 and a Rs 1 lac crore reduction in this outgo translates into a significant 8 per cent tax saving.

In FY 25 about 7.28 persons filed income tax returns. Of these 5.27 crore filed under the new tax regime and 2.01 crore under the old tax regime. Given that the new tax regime is now fetching handsome tax breaks, one could assume that more people will shift to the new regime. This suggests that the number of tax payers (who are also consumers) who will benefit from budget concessions will be in the range of 5 to 8 crores. This obviously is a small number relative to country’s population. But the recent Household Consumption Expenditure Survey published by the NSO (covering 2.4 lac households pan-India) showed that households falling into the top 5% of the respondents in rural India spent 6 times as much as the bottom 5% in 2023-24. In urban India top 5% households spent even more, 8.5 times what the bottom 5% spent. Considerations of equity aside, the above data clearly suggest that if you want to spur consumption, you need to put money in the hands of the small but crucial group of tax payers.

Notwithstanding what is stated above, it is pertinent to note that the corporate sector has seen its cash balances rising by 35% over the last two years. Rising cash balances seem to be a reflection of companies not putting them to use for investment purposes. But the share of corporate taxes in the total receipts is only 17% as against 22% of income tax paid by individuals. The budget does nothing to reduce the share of tax paid by individuals as against those paid by corporates even as they keep sitting on pile of idle cash.  In this context it is relevant to note that the revenue deficit asper latest budget is 1.5% of GDP which essentially is a dis-saving by the government adversely impacting economic growth. In fact, the much touted reduction in the fiscal deficit to 4.8% of GDP in FY 25 is achieved by reducing the capital expenditure of the government from Rs 15.02 lac crore to Rs 13.18 crore, a reduction of 12.2 per cent which certainly has impacted growth adversely. But given the nature of the political economy and the compulsion to support and enhance workforce in a sluggish employment environment, the main, if not the only way of eliminating, or at least reducing revenue deficit without affecting growth is by optimizing tax collections. May be it is time to increase the corporate tax rates to an extent which brings the corporate tax collections on par with income tax contribution.

It is hoped that the revenue assumptions of the budget come good. The budget seems to have ignored the fact that growth has slowed down. India’s nominal GDP growth in FY 25 has so far undershot the assumption of 10.5% and is expected to be a percentage point lower. For FY 26 income tax mop up estimates at Rs 14.4 lac crore seem ambitious as they are 14% up from the revised estimates for FY 25. This level of tax collection exceeds a tax buoyancy of 1.1 assumed in the earlier budgets even after accepting the optimistic GDP growth 10.1% for FY 26. The revenue assumptions are also predicated on the RBI and PSU banks paying a dividend of Rs 2.5 lac crore which seem to disregard a milieu of extreme rupee volatility and sluggish corporate profits. Well, governments live on assumptions and those governed on hope!