OPINION | The scale of borrowing expected in the Budget may keep yields sticky

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While Union Budgets typically tend to galvanise attention, the upcoming one for FY2027 will also pique interest owing to two pivotal fiscal events. Firstly, the planned shift away from annual fiscal deficit targets to debt consolidation over the medium term. Secondly, the onset of the implementation of the recommendations of the 16th Finance Commission (FC) for the next five years (FY2027-2031).

Fiscal anchor will change the next fiscal

In the Union Budget for FY2026, government had highlighted that from FY2027 onwards, it would target fiscal deficit each year (from FY2027 till FY2031) such that the Central Government debt (as per the FRBM definition) is on declining path to attain a debt-to-GDP level of about 50 ±1% by March 31, 2031 (the last year of the 16th FC cycle). This would envisage a change in the fiscal anchor, to the debt-to-GDP ratio from the annual fiscal deficit targets.

Interestingly, the GDP base itself is in the process of being updated to 2022-23, which would affect the denominator for various fiscal metrices, including the debt-to-GDP ratio.

So, what would all this mean for the FY2027 budget math?

An annual one percentage point decline in debt ratio

Based on ICRA’s analysis, a gradual debt consolidation trajectory between FY2027 and FY2031 to arrive at the upper bound of the target (50% +/-1%) would imply an annual 1.0 percentage point (pp) cut in this ratio from the FY2026 level of 56.1%. As per a debt target of 55.1% of GDP for FY2027, we estimate the fiscal deficit to be capped at 4.3% of GDP in the fiscal, just a tad below the 4.4% budgeted for the current year.

Moreover, the recommendations of the 16th FC would play out starting FY2027. These could lead to changes in tax revenue distribution between the GoI and the states as well as in the grants that the former gives to the latter.

Revenue growth may lag that of nominal GDP

ICRA expects nominal GDP growth to accelerate to 9.8% in FY2027 from 8.0% pegged in the First Advance Estimates (FAE) for FY2026, led by a higher deflator amid a pick-up in the CPI and the WPI inflation. However, we expect the GoI’s gross tax revenues (GTR) to grow by 7% in the next fiscal, dampened by the continuing impact of the GST rationalisation and the modifications of the associated cess.

Among other items on the revenue side, we have assumed modest growth in non-tax revenues (on a high base), and a target of Rs. 600 billion for miscellaneous capital receipts. Overall, we expect total receipts to rise by 6% in FY2027.

Capex spending may stay around current level

With the fiscal deficit capped at 4.3% of GDP, we estimate that the muted uptick in receipts would entail a 6.3% growth in GoI’s total expenditure. We are hopeful that GoI will prioritize growth-supportive capital spending, before fiscal rigidities in the form of higher committed expenditure burden set in from FY2028 on account of the 8th Central Pay Commission (CPC). We project the capex target to be set at Rs.13.1 trillion for FY2027 or around 3.3% of GDP.

Gross issuance may see a modest increase

On the borrowings front, if 72% of the fiscal deficit of Rs. 16.9 trillion for FY2027 (vs. 73% in FY2026) is financed through net dated market issuances, the GoI is likely to set a target for the same at Rs. 12.2 trillion, 6.5% higher than the FY2026 levels.

Given sizeable redemptions of Rs. 4.7 trillion are due in FY2027 (Rs. 3.3 trillion in FY2026), the gross market issuances are set to rise sharply to Rs. 16.9 trillion in FY2027 from Rs. 14.7 trillion in FY2026. However, the GoI could pare these numbers by conducting conversions/switches, making them more palatable for the bond markets given the stickiness in G-sec yields. Notably, gross switching of G-secs was budgeted at Rs. 2.5 trillion in FY2026, of which Rs. 1.6 trillion has been done in the fiscal so far (till January 14, 2026), implying that Rs. 0.9 trillion is left to be conducted in the remainder of Q4 FY2026.

Our baseline expectation is that gross issuance of state government securities will rise to around Rs. 13 trillion in FY2027 from Rs. 12.5 trillion estimated in FY2026, led by higher redemptions.

Add borrowing by states, the yields may remain sticky

A total gross issuance of close to Rs. 30 trillion (vs. Rs. 27.2 trillion in FY2026) may cause some discomfort to the bond markets. This suggests that yields may remain sticky, notwithstanding what the Monetary Policy Committee votes on rates and the stance, a few days after the presentation of the Union Budget for 2026-27.

Aditi Nayar is Chief Economist, Head- Research & Outreach, ICRA. Views are personal and do not represent the stand of this publication.