Three scenarios and the arithmetic thereof

Highlights

• Staying put on the fiscal deficit glide path will require the government to moderate its capex momentum seen in recent years
  
• Even if the capex momentum is reduced, our scenario analysis shows that capex share in gross domestic product (GDP) remains higher than the pre-pandemic level
  
• A mix of revenue-enhancing measures (disinvestment and asset monetisation) and further rationalisation of revenue expenditure might be needed to reduce the capex sacrifice
  

Among the several boxes that this year’s union budget ticked, fiscal rectitude was a critical one.

The fiscal deficit target of 5.9% of GDP for the next fiscal signals a return to this path, after the pandemic bloated it from 4.6% in fiscal 2020 to 9.2% in fiscal 2021. To be sure, it was reined in at 6.4% this fiscal, as some spends during the pandemic were moderated and economic recovery, along with inflation, lifted revenue collections. The goal remains reducing it to below 4.5% by fiscal 2026.

Less favourable debt dynamics¹ in the coming fiscal vis-à-vis the past two years make the pursuit of fiscal prudence even more imperative, with just two more years to go to strike 4.5%.

The 5.9% target set for the coming fiscal appears doable. The underlying assumptions of growth and revenue buoyancy are fairly realistic. The risk to budget math is from a gloomier-than-expected global environment hurting domestic growth via exports and messy geopolitics keeping crude and commodity prices high.

But to meet the 4.5% target, the government will have to cut fiscal deficit by 70 basis points in fiscals 2025 and 2026 each.

We believe this can be challenging and will require continuous fiscal vigil.

¹ Debt dynamics: The sustainability of debt is be guided by how primary deficit (i.e. fiscal deficit excluding interest payments) behaves and how the difference between nominal growth and interest cost moves. For instance, if the growth -interest rate differential (g-i) is negative, a primary fiscal surplus is needed to reduce or stabilize the debt-to-GDP ratio. Conversely, a positive (g-i) would imply that debt ratios could be reduced even in the presence of primary deficits