Union Budget 2026: Look beyond borrowings

Nitin Bhasin is the Head of Institutional Equities at Ambit

• Centre’s gross borrowing figure of Rs 17.2 lakh crore for FY27 significantly exceeded market expectations
• Elevated borrowing requirement coincides with a persisting slowdown in tax revenue
• Tax revenue to grow at a modest 7% for the second consecutive year

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The FY27 Budget has drawn mixed reactions from markets and economists alike. While the government’s commitment to fiscal discipline—amid the pivot to a debt-to-GDP anchor through FY31—has been widely lauded, the headline numbers mask a complex landscape marked by immediate headwinds, including bond market jitteriness, potential revenue slippages, and a nuanced fiscal tug-of-war with state governments.

Fiscal prudence and the debt-targeting pivot: The most significant structural takeaway from the budget is the government's continued success in reining in the fiscal deficit. The Centre remains on track to meet its revised deficit target of 4.4% of GDP for FY26 and has budgeted for a further consolidation to 4.3% of GDP for FY27.

Crucially, the budget marked the first year of a strategic pivot: the government has officially shifted its fiscal anchor from deficit-based targeting to debt-to-GDP targeting. The explicit goal is now to reduce central government debt to 50% (±1%) of GDP by FY31. Based on the current trajectory of consolidation, the Centre appears well-positioned to meet this long-term objective, a move that theoretically should comfort credit rating agencies.

The borrowing conundrum

Pressure on G-Sec yields: Despite these robust consolidation numbers, the bond market remains on edge. The Centre’s gross borrowing figure of Rs 17.2 lakh crore for FY27 significantly exceeded market expectations, which were pegged between Rs 16.5 lakh crore and Rs 17 lakh crore. This elevated borrowing requirement coincides with a persisting slowdown in tax revenue, which is projected to grow at a modest 7% for the second consecutive year due to weak buoyancy and a contraction in GST collections.

These factors have kept the 10-year G-sec yield elevated at approximately 6.7%, a stark disconnect from the policy rates which have seen the repo rate cut by 125 basis points since February 2025. Market sentiment remains under pressure due to a pronounced supply overhang with pressure from high state borrowing needs, further exacerbated by the deferral of Indian bonds’ inclusion in the Bloomberg Global Aggregate Index, which has postponed anticipated passive inflows. RBI might have to intervene with Open Market Operations (OMOs) to absorb the over-supply and aid monetary transmission.

Unlocking Value: The Disinvestment Challenge

With tax revenues under pressure, the government is increasingly relying on non-tax revenues, which have risen to approximately 22% of total receipts. While dividends from the RBI and PSUs have provided reliable support, the disinvestment roadmap remains a bottleneck. The FY27 disinvestment target appears ambitious, especially considering the Centre achieved only 23% of such targets between FY20 and FY25.

To address this structural hurdle, the Economic Survey has recommended a bold reform: amending the Companies Act to redefine what constitutes a "government company." The proposal suggests lowering the minimum sovereign holding threshold from the current 51% to 26%. This reform would allow the Centre to unlock significant value through offer-for-sale (OFS) transactions without resorting to full privatization, while still retaining effective control and the right to block special resolutions.

Capex: Defence Awakens

The budget presents a well-rounded capex plan. On-budget capex is projected to recover to 11.5% growth in FY27, with infrastructure sectors—roads, railways, and metros—continuing to command a substantial 50% share of the allocation. However, the clear push in this budget is toward the defence sector. After years of modest growth (8% CAGR between FY20-25), defence capex has seen a robust ~17.5% budgeted growth. This is coupled with a strategic mandate to procure approximately 75% of capital equipment from domestic companies, promising a higher economic multiplier effect.

The Role of States

Capex Vs Populism Finally, the budget highlights the critical role of states in driving execution. States have maintained robust capex growth of ~15% CAGR (FY22–25), significantly outpacing the Centre’s absorption capacity. Recognizing this, the Centre has increased interest-free capex loans to states by ~29% YoY to Rs 2.26 lakh crore, which now constitutes one-fifth of the Centre's effective capex.

However, this comes with a caveat. State borrowings remain elevated, largely to fund Rs 2.6 lakh crore in populist cash transfers. With the 16th Finance Commission deciding to retain the tax devolution ratio at 41% rather than increasing it, states may be forced to continue high market borrowings to balance development goals with populist demands.