Fiscal Deficit Target 2026: India's Fiscal Consolidation Journey – Economic Survey 2025-26
The fiscal consolidation story of India over the past five years represents one of the most significant achievements in macroeconomic policy management. The Economic Survey 2025-26 dedicates substantial attention to this topic, highlighting how the government has reduced the Union fiscal deficit from a pandemic-era peak of 9.2 per cent of GDP in FY21 to 4.8 per cent in FY25, with a target of 4.4 per cent for FY26. This article examines this journey, the policy choices involved, and the implications for India's economic future.
From 9.2% to 4.8%: The Remarkable Consolidation Journey
When the COVID-19 pandemic struck in 2020, the government rightly prioritised fiscal support over deficit targets. The fiscal deficit ballooned to 9.2 per cent of GDP in FY21 as revenues collapsed and expenditure surged to provide relief to affected households and businesses. Many analysts worried about the sustainability of public finances and the implications for inflation and interest rates.
However, as the Economic Survey 2025-26 highlights, the government made a commitment in 2021 to reduce the Union fiscal deficit by more than half from its pandemic peak. This commitment has been fulfilled ahead of schedule.
The trajectory of consolidation has been impressive:
- FY21: 9.2% of GDP (pandemic peak)
- FY22: 6.7% of GDP
- FY23: 6.4% of GDP
- FY24: 5.6% of GDP
- FY25: 4.8% of GDP (against budgeted 4.9%)
- FY26: 4.4% of GDP (target)
What makes this consolidation particularly noteworthy is that it was achieved while maintaining strong economic growth. Unlike fiscal austerity in some other countries that came at the cost of growth, India managed to reduce its deficit while delivering the fastest GDP growth among major economies.
Quality of Fiscal Adjustment: From Revenue to Capital Expenditure
The Economic Survey 2025-26 emphasizes that the quality of fiscal adjustment matters as much as the quantity. India's fiscal consolidation has been accompanied by a deliberate shift in the composition of government spending from revenue expenditure to capital expenditure.
Revenue expenditure includes items like salaries, interest payments, subsidies, and other current spending that does not create assets. Capital expenditure, by contrast, creates assets like roads, railways, ports, and other infrastructure that enhance the economy's productive capacity.
The government has sharply increased capital expenditure while restraining revenue expenditure growth. This has multiple benefits. Capital expenditure has a higher multiplier effect on GDP, estimated at 2.5 to 3.5 times by the survey. It also crowds in private investment by improving infrastructure and reducing logistics costs. And it creates assets that benefit future generations, unlike consumption spending that is exhausted immediately.
The survey notes that revenue deficit has declined to its lowest level since FY09. Revenue deficit (which represents the portion of current spending financed by borrowing) declining indicates improved quality of government finances. Borrowings are increasingly being used for investment rather than consumption.
Revenue Mobilisation: The GST Success Story
Fiscal consolidation requires either reducing expenditure or increasing revenue, preferably both. The Economic Survey 2025-26 highlights that revenue mobilisation has been a key component of India's fiscal improvement.
Goods and Services Tax (GST) collections have grown strongly, reflecting both economic growth and improved compliance. The tax administration has become more efficient through technology-driven measures like e-invoicing, auto-population of returns, and data analytics to detect evasion.
Direct tax collections have also improved, benefiting from economic growth and better enforcement. The government's focus on widening the tax base rather than raising rates has been a sustainable approach to revenue enhancement.
The survey mentions that the government passed the most radical overhaul of GST since its inception in 2017. This reform aims to further simplify the tax structure and improve compliance, potentially boosting revenues while reducing the compliance burden on businesses.
Market Recognition: Lower Bond Yields
Financial markets have recognized and rewarded the government's fiscal discipline. The Economic Survey 2025-26 notes that sovereign bond yields have declined significantly, with the spread over US bonds falling by more than half.
Lower bond yields have several positive implications. They reduce the government's interest burden, creating fiscal space for developmental spending. They also lower borrowing costs for the private sector, supporting investment and growth. And they signal investor confidence in India's macroeconomic management, attracting foreign capital.
The government received credit rating upgrades from three agencies in 2025, with S&P upgrading India from BBB- to BBB. This was explicitly linked to the fiscal consolidation achievements and improved growth outlook.
State Finances: The Emerging Concern
While the Union Government's fiscal performance has been commendable, the Economic Survey 2025-26 expresses concern about state-level finances. The survey deals "more extensively with state finances than usual, as concerns over fiscal populism, the crowding out of capital expenditure by cash transfers, and the rise of revenue deficits in states have increased in recent times."
Several states have implemented large unconditional cash transfer schemes in recent years. While these provide immediate relief to beneficiaries, they raise several concerns. They crowd out capital expenditure by consuming fiscal resources that could otherwise fund infrastructure. They may reduce incentives for self-improvement and employability. And they increase revenue deficits, indicating that states are borrowing to fund consumption.
The survey notes that investors increasingly assess general-government finances (Union plus states) rather than just Union government finances. Weak fiscal discipline at the state level "can no longer be treated as locally contained—it increasingly affects the cost of sovereign borrowing."
India's 10-year bond yield at 6.7 per cent compares unfavourably with Indonesia's 6.3 per cent despite both having the same BBB credit rating. The survey suggests that state fiscal concerns may be contributing to this premium.
The Path to 3% Fiscal Deficit: Is It the Right Target?
The Fiscal Responsibility and Budget Management (FRBM) Act originally envisaged a 3 per cent fiscal deficit target for the Union Government. The Economic Survey 2025-26 implicitly questions whether this should remain the ultimate goal.
The survey notes that the 3 per cent target "has been achieved only once since 2003" (in FY08). Rigid rules reduce policy space during crises, as demonstrated during the pandemic. Instead, the survey suggests that a medium-term glide path with flexibility may be more appropriate than fixed annual targets.
The emphasis should be on the quality of expenditure rather than hitting a specific deficit number. A 4 per cent deficit spent on infrastructure may be better for the economy than a 3 per cent deficit achieved by cutting capital expenditure.
The survey also discusses debt-to-GDP ratio as a potentially better fiscal anchor than the deficit ratio. A debt target provides flexibility to run higher deficits during downturns while requiring consolidation during good times.
Fiscal Credibility and Investment Climate
The Economic Survey 2025-26 argues that fiscal credibility has become "strategic assets in their own right, with lasting relevance." In a world of elevated uncertainty, countries with credible fiscal policies can attract investment and maintain currency stability even during global stress episodes.
India's demonstrated commitment to fiscal consolidation has enhanced its standing with international investors. This credibility provides a cushion during times of stress, as investors are more likely to maintain their India exposure if they trust the government's fiscal management.
The survey emphasizes that fiscal credibility requires sustained effort over many years. The consolidation from 9.2 per cent to 4.4 per cent represents such sustained effort and has built credibility that cannot be replicated quickly.
Tax Reforms: Budget 2026 Highlights
The Economic Survey 2025-26 mentions that the government announced significant tax breaks for households in the Union Budget for FY26. These tax cuts support consumption demand while not derailing fiscal consolidation because they are accompanied by expenditure restraint and efficiency improvements.
This approach demonstrates that fiscal consolidation and support for growth can coexist. By improving expenditure quality and efficiency, the government created space for targeted tax relief without compromising deficit targets.
Looking Ahead: Fiscal Policy in Uncertain Times
Given the three global scenarios outlined in the survey (fragile continuity, multipolar breakdown, or systemic shock), fiscal policy must remain flexible while maintaining credibility.
The survey advocates for building buffers during good times so that fiscal policy can respond to shocks during bad times. The reduced deficit and improved debt dynamics provide some fiscal space to respond to future shocks, though this space must be used judiciously.
UPSC Relevance: Fiscal Policy and Economic Survey
For UPSC aspirants, fiscal policy is a core topic spanning multiple papers:
- GS-III: Government budgeting, fiscal deficit, public debt
- Economy optional: Detailed understanding of fiscal policy instruments
- Current affairs: Annual budget and fiscal developments
Practice MCQs on Fiscal Deficit - Economic Survey 2025-26
Q1. According to Economic Survey 2025-26, India's fiscal deficit target for FY26 is:
(a) 4.0% of GDP
(b) 4.4% of GDP
(c) 4.8% of GDP
(d) 5.1% of GDP
Answer: (b) 4.4% of GDP
Q2. India's fiscal deficit peaked at what level during the pandemic in FY21?
(a) 6.4% of GDP
(b) 7.5% of GDP
(c) 8.9% of GDP
(d) 9.2% of GDP
Answer: (d) 9.2% of GDP
Q3. The Economic Survey 2025-26 states that the 3% fiscal deficit target under FRBM has been achieved:
(a) Never since enactment
(b) Only once since 2003
(c) Three times since 2003
(d) Consistently since 2010
Answer: (b) Only once since 2003
Q4. According to Economic Survey 2025-26, the multiplier effect of public capital expenditure is estimated at:
(a) 1.0 to 1.5 times
(b) 1.5 to 2.0 times
(c) 2.5 to 3.5 times
(d) 4.0 to 5.0 times
Answer: (c) 2.5 to 3.5 times
Q5. The Economic Survey 2025-26 identifies which of the following as a concern about state finances?
(a) Low GST collection
(b) Unconditional cash transfers crowding out capital expenditure
(c) Excessive capital spending
(d) High corporate tax rates
Answer: (b) Unconditional cash transfers crowding out capital expenditure
Conclusion
India's fiscal consolidation journey, as documented in the Economic Survey 2025-26, represents a significant policy achievement. The reduction of fiscal deficit from 9.2 per cent to 4.4 per cent while maintaining strong growth demonstrates that fiscal discipline and development can coexist. However, the survey also highlights emerging concerns about state-level fiscal health that must be addressed. As India navigates an uncertain global environment, the fiscal credibility built through this consolidation will serve as a valuable buffer against external shocks.