Union Budget 2025: Road to growth needs to be paved with reforms

Union Budget 2025

By Indranil Pan, Chief Economist at Yes Bank

Markets were no doubt shocked to see 5.4 percent growth in Q2FY25, but Q3 data has shown a steady upside. This indicates that H2 growth in FY25 is likely to be better than H1, leading to the First Advance Estimate of 6.4 percent. However,  looking at the growth the economy has clocked, we see a distinct slowing over the quarters from a peak of 8.6 percent in Q3FY24. One of the critical reasons for this is the pace of growth in gross fixed capital formation (GFCF), which has slowed down from 11.6 percent in Q2FY24 to 5.4 percent in Q2FY25.

With the capex spend of the government on the lower side, including the amounts carved out for the states, it looks unlikely that the government will be able to meet its capex target of Rs 11.1 lakh crore for the year. Our calculations indicate that the government will over-achieve its fiscal deficit target for the year, at 4.7 percent of GDP. Our estimates also indicate that the RBI may pay a bumper dividend to the government in FY26 as well, thus helping it achieve its fiscal consolidation target of 4.5 percent of GDP.

Indeed, the growth slowdown that has befallen India may not be fully cyclical in nature and could imply a normalisation in the sharp demand pull seen post Covid. In this context, the government will have to make a clear choice — would it want to push consumption by measures such as income tax cuts, or should it remain squarely focussed on clearing out the remaining structural bottlenecks in the economy and enable a sustained growth pick-up?

Click Here To Read All Budget 2025 Related News

Data indicates that income tax-payers form just 7.1 percent of the total population. While there has been a significant increase in compliance over the years, most of the increased numbers comprise people who file nil returns. The actual taxpayers in the economy are only about 1.6-2 percent of the population and any benefit provided to this segment through tax cuts may not have any significant impact on growth.

On the other hand, the RBI’s latest Financial Stability report points out that sub-prime borrowers have been availing of loans for consumption purposes and per-capita debt has increased sharply for these borrowers. This indicates that even post Covid, people in the lowest income bracket are stressed and a  tax cut may not help them significantly.

Thus, the upcoming budget should be focussed on fixing the structural bottlenecks to growth, especially when the rest of the globe is slowing down and there is a broad atmosphere of de-globalisation and geopolitical fragmentation.

In the push for  development and Viksit Bharat, the government had envisaged  India as a global manufacturing and export hub, thereby transforming the country from a services-dominated economy to one powered by domestic manufacturing. In the face of possible tariffs, the government would possibly have to progressively reduce any existing duties that exist to protect domestic industries under the PLI (performance-linked incentive)  framework.

We also need focus on measures to improve the efficiency and productivity of the economy. Last year, the union budget launched the Employment Linked Incentive Scheme to drive job creation in the manufacturing sector, and also launched a programme to address skill mismatches in the economy. But the outlays for these were underutilised in FY25 due to the late announcement of the budget. These schemes need to be sharpened, and the government needs to move full steam ahead to enhance employment generation and push consumption.

While the government remains focussed on achieving its intended fiscal consolidation, it should continue to take the lead in capital spending. Another important effort should be to improve the ICOR (incremental capital output ratio) and reduce project cost overruns. As we step into a VUCA (volatile, uncertain, complex, and ambiguous) world, shielding domestic growth from external shocks via strengthening the macro and the micro of the economy becomes important.

As for harnessing surplus labour, the government needs to increase its efforts to improve productivity in the agricultural sector. This will not only help generate employment, but also enable the economy to achieve better food security amid persistent climate shocks.