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FY27’YTD Center (INR5.1t) + states capex (INR2.3t) = INR7.4t, up 15.6% YoY

* Public capex remained the key fiscal growth lever in 5MFY27, with the Center continuing to lead the investment cycle, while states retained significant headroom to accelerate spending. Combined public capex by the Center and states reached INR7.4t in 5MFY27, up around 15.6% YoY, comprising INR5.1t of central capex (+18.2% YoY) and INR2.3t of state capex (+8.9% YoY). The continued expansion in public investment suggests that the government remains committed to supporting the investment cycle, even as the broader growth momentum is expected to moderate in 2HFY27.

* Central capex rose 18.2% YoY to INR5.1t, well ahead of 8.2% growth in revenue expenditure, led by defense (+36.7% YoY) and railways (+22.9% YoY). In contrast, roads capex moderated, with growth slowing to 2.1% YoY, while transfers to states remained strong at +59.5% in 5MFY27, supporting state-level investment. Spending on housing & urban affairs declined 20.5%. In terms of budget utilization, railways (54.4%), transfers to states (47.0%) and MoRTH (43.9%) are relatively well advanced, while defense (36.8%) and housing & urban affairs (23.6%) leave greater scope for acceleration. Overall, the Center has utilized 41.7% of its FY27BE capex allocation, with the current INR1t monthly run rate in line with the required run-rate as per budget.

* State capex also remained positive, although the pace was more moderate and uneven across states. Aggregate capex across 22 states increased 8.9% YoY to INR2.3t in 5MFY27, but only 20.7% of the FY27BE allocation has been utilized, leaving considerable headroom for acceleration in 2HFY27. Maharashtra (+45.5%), Kerala (+59.3%), Chhattisgarh (+46.8%), and Andhra Pradesh (+41.9%) recorded strong capex growth, while Karnataka (+11.0%) and Gujarat (+13.8%) posted more moderate increases. In contrast, capex declined in West Bengal (-38.6%) and Madhya Pradesh (-18.7%), highlighting the uneven nature of the state investment cycle.

* Disinvestment has emerged as an important positive for the fiscal outlook, with the FY27 target now appearing comfortably achievable. The Center has already mobilized around INR621.2b, equivalent to 77.7% of the INR800b FY27BE disinvestment and asset-monetisation target. This is a significant improvement from our earlier expectation of an INR500b (~10bp) shortfall in disinvestment receipts, as only around INR178.8b now remains to be raised to meet the fullyear target. Importantly, stronger disinvestment proceeds should help contain the fiscal deficit and reduce the need for additional borrowing at the margin.

* Fiscal consolidation remains broadly intact despite the investment push, although fiscal vulnerability is concentrated in a few states. The Center's fiscal deficit stood at INR7.1t in 5MFY27, while the 22-state aggregate fiscal deficit was INR2.7t, down from INR3.7t in 5MFY26 and equivalent to around 20% of FY27BE. At the state level, Andhra Pradesh, Bihar, Himachal Pradesh, and Kerala warrant closer monitoring, with fiscal-deficit utilization achieved in 5MFY27 at 70%, 112%, 67%, and 54% of FY27BE, respectively.

Outlook:

* Growth outlook remains firm, but we expect some moderation in 2HFY27. We retain our FY27 real GDP growth forecast at 7.0–7.2%, supported by resilient domestic demand, investment activity, and continued public capex. Center and state capex reached INR7.4t in 5MFY27, up 15.6% YoY, comprising INR5.1t of central capex (+18.2% YoY) and INR2.3t of state capex (+8.9% YoY). However, tighter financial conditions, elevated inflation, and a less supportive global environment are likely to moderate growth momentum in 2HFY27.

* Fiscal policy should remain supportive of investment while staying broadly aligned with the consolidation path. We now expect the Center’s fiscal deficit at around 4.5% of GDP in FY27, implying a slippage of 20bp from the 4.3% Budget target, lower than our earlier estimate of 30bp. The improvement is primarily driven by a more favorable outlook for disinvestment and asset-monetization receipts, with the FY27 target now appearing easily achievable. The Center has already mobilized around INR621.2b, equivalent to 77.7% of the INR800b FY27BE disinvestment and asset-monetization target. This is a significant improvement from our earlier expectation of an INR500b (~10bp) shortfall in disinvestment receipts, as only around INR178.8b now remains to be raised to meet the full-year target.

* Inflation is likely to emerge as the key macro concern in 2HFY27. Elevated global commodity prices, particularly crude, alongside weather-related risks and the possibility of an El Niño impact on food supply, could push inflation higher. With our FY27 CPI inflation forecast at 5.2%, inflation is likely to remain meaningfully above the RBI’s medium-term target, limiting the scope for monetary easing. A sustained rise in crude prices above USD100/bbl would further intensify domestic inflation pressures, while also worsening the trade and current-account balance. This could reinforce the case for tighter liquidity conditions and a more restrictive monetary-policy stance.

* We now expect the RBI to begin its tightening cycle with a 25bp rate hike in the Oct’26 policy. The policy backdrop has turned more hawkish, with global central banks also starting to hike rates amid renewed inflation and energy-price pressures. The RBI has already begun withdrawing surplus liquidity, including INR1t of OMO sales, alongside continued liquidity-management operations. With domestic growth remaining resilient and inflation risks building, we expect the RBI to gradually tighten policy. If crude remains above USD100/bbl for a sustained period, we see scope for a cumulative 75–100bp of rate hikes.

* Government bond yields are likely to remain elevated and volatile, with the 10-year G-sec yield for FY27 expected in the 7.0–7.25% range. The yield outlook reflects sharply higher global bond yields, elevated domestic inflation risks, a more hawkish RBI stance, and crude prices above USD100/bbl. On the domestic supply side, the government’s 2HFY27 borrowing calendar entails INR7.86t of dated-securities issuance across 23 weekly auctions, with weekly borrowing of INR330–360b and a relatively high share of long-duration securities. Securities with maturities of 10 years and above account for ~72% of the 2HFY27 issuance, while 15-year and longer securities alone account for ~46%. However, the lower-than-budgeted full-year borrowing requirement, alongside stronger-than-expected disinvestment receipts, should provide some offset to the upward pressure from long-duration supply. Overall, we expect the 10-year G-sec yield to remain within the 7.0–7.25% range through 2HFY27, with risks skewed toward the upper end if crude remains above USD100/bbl.

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