Boost household income, simplify indirect taxes, put conditions on capex loans to states and support MSMEs | Business News


The first full-year Budget of the new government comes against the backdrop of slower domestic economic growth, a weakening currency, and a highly uncertain global geopolitical situation (especially the Trump-led US administration). Not surprisingly then, the expectations are running high. Below are my five expectations from the Union Budget 2025-26:

📌 Make interest-free capex loans to states ‘conditional’: One of the most worrying trends in public finances in the recent past has been the increasing number of welfare schemes. The Union Government announced the PM-KISAN scheme in the interim Budget 2019, which was followed up with free food grains to about 81.35 crore citizens in December 2022 for one year and was extended to five years in November 2023. Notwithstanding the prospering India, several states have announced unconditional monthly stipends to various groups (women, students, unemployed, etc.) without any economic criteria or statistical reasoning. This followed farm loan waivers announced by several states post-2019. All these trends are a bit confusing because if states have the resources to announce cash transfers or other welfare schemes, then the need for interest-free loans for capex to states by the central government must be reviewed. It would be useful to link such capex loans with some conditions, such as 1) the achievement of capex by each state vs. its budget estimate and 2) the ratio of welfare schemes/cash transfer/current expenditure to capital expenditure of each state. The higher the former and the lower the latter, the more the state deserves capex support from the central government. Such conditions would help bring some fiscal discipline among states, and the Centre needs to start by setting an example.

📌 Change dividend income tax policy and commit to lowering/simplifying indirect taxes: There is no doubt that personal income tax rates are high, but the burden of indirect taxes is more widespread and concerning. Based on the central government’s gross taxes data, direct taxes (personal and corporate income taxes) account for around 57 per cent of total taxes now, the highest share in 15 years. Nevertheless, if we include states’ taxes, the indirect taxes still account for around 60 per cent of all tax receipts in the country, the same as it was a decade ago. A couple of recommendations on this front are: a) double taxation on dividend income must be abolished by either making it tax deductible for companies or by reverting to the old system of including it only in the corporate income taxes and b) the government needs to articulate its intention of making GST simpler by reducing tax slabs and interventions and lowering the burden of indirect taxes.

📌 Focus on boosting household income, not consumption: It is widely believed that urban consumption growth has slowed down, while the rural economy has improved in FY25.

There is, thus, a lot of expectation from the government to boost consumption. This is unwarranted. The government needs to focus on improving household income growth rather than consumption. Apart from simplifying and lowering indirect taxes, any support to the construction sector (the second-highest employer industry in India) would be highly effective and may help pull workers away from the agriculture sector. Further, while the formalisation of the economy is beneficial, it is not advisable to completely overlook the huge informal sector (e.g., MSMEs). Therefore, any non-inflationary support to the micro and small enterprises would be welcome.

Festive offer

📌 Remain on the path of fiscal consolidation and focus on capex: It is very likely now that the government will miss its FY25 capex target by about Rs 1lakh crore. Further, the first batch of supplementary demands for grants for FY25 included proposals involving a net cash outgo of Rs 44,100 crore. Total spending, thus, is anticipated to be lower than the target this year, even though total receipts could meet the budget estimates (slightly better tax receipts, offset by lower non-debt capital receipts). Therefore, the central government will probably overachieve its fiscal deficit target this year. We recommend that the government continue on the path of consolidation and target a deficit of 4.5 per cent of GDP next year, with a clear preference for capex. It would mean that total spending growth may remain subdued at around 7 per cent YoY next year, the same as in FY25. A further decline in the total spending-to-GDP ratio (to a six-year low of 14.3 per cent) implies that fiscal impulse may remain negative in FY26 as well. Still, the Centre’s capex could grow 10-15 per cent in FY26, following a +/-5 per cent change this year. At the same time, if the government chooses to target the debt-to-GDP ratio from the subsequent years, it needs to clearly outline its target range (or point target) over a longer period.

📌 The government should accept its limitations in incentivising corporate investments: Finally, the government needs to recognise its limitations in pushing private corporate investments higher. During the past five years (FY20-FY24 Estimates), government capex has recorded a CAGR of 16 per cent, household investments have risen by 12 per cent,  and corporate investments by only 6 per cent. Excluding CPSEs (whose capex declined), private corporate capex grew 8 per cent during the past five years. This is despite a steep reduction in the corporate income tax rate in September 2019. Although it may be appealing to attribute the lack of increased spending to companies, we must acknowledge that their spending decisions are primarily driven by project viability and available profitable opportunities. The government needs to accept that the rising prominence of equity markets, globalisation, and independent management have diminished the policymakers’ ability to influence corporate investments. It is worth analysing if India’s corporate investments can rise from the current levels without compromising sustainability, rather than announcing further incentives to push corporate investments.

Overall, the Government of India needs to seize the opportunity presented by the Union Budget 2025-26 to articulate its long-term economic vision, rather than getting distracted by short-term trends.

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