The main monetary targeting parameters of inflation, growth won’t be different from what they were when the Dec policy was announced

With the new year starting, the two immediate policies that would be awaited are the budget and credit policies. The credit policy would come just after the budget is announced and would also be the last one for FY26. The budget would come just after the FOMC meeting, and while it has no bearing on its content, the RBI would also pay attention to what the Federal Reserve has in mind. What can one expect from these policies? 

The budget, to be presented, will be special for several reasons. The first is that the path of fiscal deficit will be tracked. Post covid, there has been a tendency for the deficit to be rolled back. While a 3% ratio is the ideal level, it is not possible to do so at one stroke and has to be done in a phased manner. 

Second, this budget will also have to keep in mind the impact of the possible recommendations of the Pay Commission. 

While the direct impact will not be in FY27, a call has to be taken on whether or not provisions have to be made for the arrears component as and when the new dispensation is enforced. Third, there has to be internal discussion on the free food project, which is to end by December 2028. A plan to roll back the same has to be put in place. Fourth, addressing the immediate concerns of exporters on account of the tariff backlash has to be provided for. It is expected that a trade deal will be signed by the end of March 2026, which will give space for the budget to address these concerns. Therefore, more than numbers, it is the ideology which will be of prime importance. 

What specifically will economists be looking for in this budget? To begin with, the assumptions on the GDP nominal growth will be of interest. FY26 has been quite different from earlier years with very low inflation, thus bringing about a virtual convergence between the real and nominal GDP growth rates. This becomes important since the fiscal deficit ratio is dependent on the nominal GDP value. If the ratio is to be lowered, then the value of the fiscal deficit has to be low if the nominal GDP growth rate is in single digits. It is normally assumed to grow by 11%, which then offers scope for a higher value of deficit, which is consistent with a lower fiscal deficit ratio. The growth in nominal GDP assumed in the budget sets the tone for the implicit GDP growth on which normally the economic survey would have something to say.

The other issue which has dominated thinking space is the capex of the government. At around Rs 11 lakh crore in FY26, it accounts for a little over 20% of the total size of the budget. While the size of the budget does increase by 5 to 10% annually, depending on the inflation assumed for the coming year, it may not always be possible to increase capex commensurately. The reason is that one must also consider the capacity to undertake projects and complete the same, which is critical. This is why often the capex targets are not met. This happens at both the state and central levels. An increase of not more than Rs 1 lakh crore can be expected. 

The third area of interest would be disinvestment and asset monetisation. This has progressively become more important for budget formulation, given that there are limits to which tax collections can increase, as it is dependent on the GDP growth. This component, along with the non-tax revenue component of transfers from the RBI, would reflect the overall fiscal space that is available. 

There are also certain measures which cannot be expected, and this relates to taxation for individuals. The government has already rationalised tax rates, especially at the lower income levels in FY26, and would not be in a position to offer any further relief. There is, however, the possibility of providing some tax benefit on interest on bank deposits, considering that there has been a slowdown in growth in such savings. There is a strong justification to harmonise the tax structures for debt and equity returns. 

On the indirect taxes front, with the GST 2.0 being implemented, there is limited scope for any further changes here. Hence, this part of the story will remain unchanged. Of interest will be whether or not there are any changes made in the structure of customs duties for various products, considering the trade deals which will be signed with the USA as well as the other agreements already signed or in the process of being consummated with other nations. 

The fiscal deficit level will also indicate the net borrowing that is to be reckoned this year. Interestingly, FY27 will have Rs 5.5 lakh crore of redemptions, which will keep increasing at a rather rapid rate in the next few years to come close to Rs 9 lakh crore by FY31. This will, hence, be a testing time for the market that has to absorb a progressively larger quantum of gross borrowings of the government. 

Following the budget, the credit policy will be announced. The main monetary targeting parameters of inflation and growth will not be very different from what they were when the December policy was announced. It may be expected that logically there should be one more rate cut to bring the repo rate to 5%. But this will probably be the end of the rate cycle, as inflation will move upwards to the 4-4.5% mark in the course of the year purely on the base effects. The puzzle will be how to react to possibly a GDP growth rate which would be lower in FY27 relative to FY26. Hence, the limits to the efficacy of rate cuts on the GDP growth will be tested at both the policy and ground levels.