Budget 2025: Nirmala Sitharaman tightens fiscal belt, pegs FY26 deficit at 4.4% of GDP

Finance Minister Nirmala Sitharaman has set the course for fiscal consolidation in her Budget, announcing a fiscal deficit of 4.8% of GDP for FY25, revised downward from the earlier estimate of 4.9%. 

Looking ahead, the FY26 deficit target has been set at 4.4%, signaling a more aggressive approach toward debt reduction and macroeconomic stability. This downward revision for FY25 was driven by lower capital expenditure due to slower infrastructure execution in an election year and a ₹2.1 lakh crore surplus transfer from the Reserve Bank of India, which significantly boosted revenue. 

The move aligns with the government’s medium-term goal of bringing the fiscal deficit below 4.5% by FY26, reinforcing India's commitment to financial discipline.

The 4.4% fiscal deficit target for FY26 marks a critical shift toward tighter spending and controlled borrowing. The strategy is designed to improve India’s debt-to-GDP ratio, aiming for a reduction to 60% by FY27 from its current ~85% (including states). This fiscal tightening is expected to strengthen India’s case for a sovereign credit rating upgrade, demonstrating responsible financial management while ensuring investor confidence remains strong. The government's fiscal trajectory follows a structured path of deficit reduction, having peaked at 9.2% in FY21 due to pandemic-driven spending, and gradually declining—5.8% in FY24, 4.8% in FY25 (revised), and 4.4% projected for FY26.

On the revenue front, income tax collections have shown robust growth, increasing 23.5% in the first eight months of FY25, helping offset weaker-than-expected GST and corporate tax revenues. However, the expenditure side has seen capex growth slowing to 6.5% in FY25, significantly below the budgeted 11.1%, reflecting a cautious approach to infrastructure investment. Despite this, capex is projected to rise by 10-12.5% in FY26, ensuring that growth momentum in infrastructure development remains intact. Potential tax reforms are also being considered, with a possible income tax relief for middle-class taxpayers aimed at boosting consumption and economic activity.

While the fiscal roadmap looks promising, key risks remain. Slower GST growth and a growing dependence on volatile capital gains taxes could pose revenue challenges. Meanwhile, the expansion of welfare programs like PM-KISAN and rural employment schemes may add pressure on expenditure, requiring careful budget management. From a market perspective, gross market borrowings for FY26 are projected at ₹14-14.5 lakh crore, which could help ease bond market pressure and attract more foreign investment.

Globally, India’s fiscal deficit remains higher than peers like China (3-3.5%), though it aligns with emerging market norms. Rating agencies like Moody’s and Fitch have stressed deficit control as a key factor for a potential credit rating upgrade.