Fiscal policy in India encompasses government taxation, expenditure, and borrowing choices aimed at stabilizing the economy, promoting growth and equity, and allocating resources across competing priorities. It operates through constitutionally structured budgets at the Union and State levels, shaped by fiscal rules and periodic Finance Commission awards to manage vertical and horizontal imbalances.
Importance of budgets
- Budgets translate policy priorities into annual, medium-term, and programmatic allocations, framing macro-fiscal strategy, sectoral spending, and deficit financing within a rules-based envelope.
- They serve accountability and transparency functions through measurable estimates, demand-for-grants processes, and subsequent audits, enabling legislative oversight and public scrutiny.
- Countercyclical stabilization is implemented through budgeted changes in spending and taxation, while structural reforms (e.g., subsidy rationalization, capital spending push) are sequenced through multi-year budget frameworks.
Union Budget
- The Union Budget sets nationwide fiscal stance, tax policy (direct and indirect), centrally sponsored schemes, defense and national infrastructure allocations, and market borrowing plans.
- It anchors fiscal consolidation paths under fiscal responsibility legislation, balancing growth-supportive capex with social protection and revenue buoyancy, while managing debt sustainability and interest burdens.
- Key statements typically include the Annual Financial Statement, Demand for Grants, Finance Bill, Fiscal Policy statements, and documents on outcomes, performance, and medium-term frameworks.
State Budgets
- State budgets operationalize service delivery in health, education, agriculture, rural development, and urban infrastructure, reflecting the assignment of expenditure responsibilities in India’s federal design.
- States rely on a mix of own taxes (notably GST compensation phased realities, excise-like levies on alcohol, stamp duty), non-tax revenues, and intergovernmental transfers to fund rising developmental outlays.
- Subnational fiscal rules, borrowing ceilings, and guarantees frameworks influence the pace and quality of capex, contingent liabilities management, and fiscal resilience across economic cycles.
Finances of Union and States
- Vertical imbalances arise because the Union possesses stronger tax bases while States carry large expenditure mandates; this is addressed via tax devolution and grants.
- The consolidated public sector balance hinges on buoyant tax-to-GDP, quality of expenditure (capex vs revenue), interest costs, and the efficiency of subsidies and transfers, alongside public sector enterprise performance.
- Liquidity, cash management, and market borrowing programs—managed through auction calendars and debt management protocols—determine interest costs and rollover risks for both tiers.
Finance Commission
- Constituted every five years under Article 280 of the Constitution, the Finance Commission recommends the vertical split of divisible tax pool and horizontal distribution among States using need and capacity criteria.
- It also advises on grants-in-aid to address revenue deficits, sectoral priorities, and incentivized reforms, thus shaping fiscal space and inter-State equity.
- The Commission’s methodology typically balances equity (income distance, population), efficiency (tax effort), and governance/service-delivery indicators, while considering disaster relief and local body finances.
Theory and practice of fiscal policy
- Keynesian stabilization underscores countercyclical deficits during downturns and consolidation in expansions, tempered by debt sustainability and crowding-out risks.
- Supply-side and structural views stress tax design, public investment in infrastructure and human capital, and subsidy targeting to raise potential growth and productivity.
- Modern fiscal frameworks use medium-term expenditure frameworks, outcome budgeting, and fiscal rules with flexibility clauses to navigate shocks while preserving credibility.
Instruments of fiscal policy
- Expenditure policy: capital outlays for transport, energy, and urban services; targeted social spending through direct benefit transfers; and maintenance budgets to preserve asset quality.
- Tax policy: broadening bases, improving compliance via digital systems, rationalizing rates, and minimizing cascading; calibrating excises/cesses within federal sharing norms.
- Borrowing and debt management: marketable securities issuance, maturity profile optimization, contingent liabilities control, and state-level borrowing limits aligned to sustainability metrics.
- Intergovernmental transfers: formula-based devolution, tied/untied grants, and performance-linked incentives to align national and state priorities.
- Public financial management: commitment controls, cash and treasury single account practices, timely accounts and audits, and outcome monitoring to improve efficiency.
Contemporary priorities for India
- Enhancing tax buoyancy and compliance to lift the tax-to-GDP ratio while safeguarding growth through stable, predictable policy.
- Rebalancing toward high-quality capex and maintenance, improving subsidy efficiency, and protecting essential social spending within fiscal space constraints.
- Strengthening state finances via predictable transfers, prudent borrowing, and capacity building in PFM, procurement, and project execution.
- Embedding climate and resilience objectives in budget frameworks through green public investment, disaster risk financing, and just transition support.
- Improving transparency with comprehensive budget documents, medium-term statements, contingent liability disclosures, and outcome-based reporting.
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