Union Budget Preview FY26E fiscal deficit 4.5%; capex growth 14% By Elara Securities
Budget focus unlikely to shift materially to consumption: The upcoming Union Budget is set to be framed in the backdrop of sluggish domestic demand and elevated global uncertainty under the cloud of Trumponomics. We expect Budget FY26E to strike a healthy balance between consumption and capital expenditure while retaining the fiscal deficit target of 4.5%. While we expect modest measures for consumption, the key ideological thinking with respect to sustaining capital formation is unlikely to change materially. We expect 14% growth in capital expenditure in FY26E vs 4.9% in FY25E. The net GSEC supply is likely to remain flat on YoY basis at INR 11.7tn, keeping the demand supply dynamics in the bond market favorable. We believe India’s monetary policy cycle has turned and RBI’s willingness to allow USDINR to gradually adjust to it real effective exchange rate creates space for policy easing. We expect the first rate cut of 25bp by the RBI’s MPC in February 2025E and project India’s 10-year yield at 6.6% by March 2025E and 6.4% by March 2026E easing from 6.73% currently.
Fiscal deficit of 4.5% in FY26E; capital expenditure at INR 11.3tn: We see the government targeting fiscal deficit at 4.5% of GDP in FY26E vs 4.8% of GDP in FY25E (lower than the budgeted target of 4.9% of GDP) and see capital expenditure at INR 11.3tn in FY26E (14% YoY growth) vs downward revised INR 9.9tn in FY25E from INR 11.1tn budgeted, given sluggish spending amid elections-related uncertainty. We believe the worst of capex expenditure slowdown is behind us, and, hereafter, the momentum of capital expenditure and order inflows from the government will remain supportive. From robust 16.0% growth in revenue receipts in FY25E on the back of higher RBI dividend and robust growth in personal income tax, we expect growth to moderate to 11.8% in FY26E.
On the macroeconomic front, bolstering income of the lowest income strata, both in rural and urban India, may take center-stage in the Budget’s intent. Hike in allocation to PM Kisan may be the key policy announcement to look for along with lowering of income tax rates for those under the new income tax regime.
FY25E fiscal deficit at 4.8% of GDP vs budgeted 4.9% of GDP: We expect the Central government’s fiscal deficit to be overachieved by 10bp in FY25E, as higher-than-expected tax and non-tax revenue help to offset the shortfall in disinvestment receipts and higher cash outgo in supplementary demand for grants of INR 441bn and lower capital expenditure of INR 9.9tn in FY25E vs 11.1tn in FY25BE. Lower drawdown of a 50-year interest free loan by the States from the Centre is likely to weigh on capex spending. Until December 2024, the Central government had approved sanctions of INR 857bn but disbursed a mere INR 615bn to States under the 50-year interest free loan vs budgeted INR 1.5tn.
Pivot to debt-to-GDP as fiscal anchor to open space for capex spend from FY27: Our analysis of long-term fiscal deficit data shows that a shift to debt-GDP as fiscal consolidation anchor vs (fiscal deficit as a percentage of GDP currently) can allow the Central government to bolster capex spend through FY40 and reduce the pace of consolidation by 100bp in the next 14 years without compromising on fiscal consolidation. This assumes that Central government targets to reduce debt to GDP by 100 bps till it falls below 50% and then 50bps annually thereafter. We assume FY27E fiscal deficit of 4.3% and see a capex-GDP ratio to rise to 3.3% of GDP in FY27E from a likely 3.2% of GDP in FY26E and actual 3.0% of FY25E. This assumes a conservative GDP growth rate of 10% for nominal GDP growth through FY40. A higher GDP growth estimate would provide incremental space for spending. On the contrary, an aggressive consolidation path may limit the space for capex spending.
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