India Fiscal Balancing Act, A Deep Dive into the H1 FY26 Deficit, Capex Surge, and Revenue Challenges
The release of the central government’s fiscal data for the first half (H1) of the financial year 2025-26 provides a critical, real-time snapshot of India’s economic trajectory and the Union government’s strategic priorities. The figures, unveiled on October 31st, paint a picture of a nation vigorously investing in its future through aggressive capital expenditure, even as it navigates the tricky waters of moderating tax revenues and a widening fiscal deficit in the short term. This is not merely a story of numbers but a narrative of a calculated economic gamble, where the government is betting on long-term growth acceleration to offset immediate fiscal pressures.
The Headline Figure: A Widening Fiscal Deficit
The most immediate takeaway from the data is the state of the fiscal deficit—the gap between the government’s total expenditure and its total receipts. In H1 of FY26 (April to September 2025), the fiscal deficit stood at ₹5.73 lakh crore. This amount represents 36.5% of the full-year budget estimate (BE).
To fully appreciate this figure, it must be viewed in a comparative context. In the same period of the previous year (H1 FY25), the fiscal deficit was ₹4.75 lakh crore, which was a much lower 29.4% of that year’s annual target. The year-on-year increase in the absolute deficit and, more importantly, the higher percentage of the annual target already consumed, signal a significant acceleration in government spending relative to its income in the first six months of the current fiscal year.
This widening is not an accidental outcome but a direct and deliberate consequence of the government’s primary economic strategy: front-loading capital expenditure to stimulate a nascent economic recovery and build foundational infrastructure.
The Engine of Growth: A 40% Surge in Capital Expenditure
The cornerstone of the government’s economic policy in recent years has been its focus on capital expenditure (capex). Capex refers to government spending on creating physical assets like roads, railways, ports, power plants, and digital infrastructure. Unlike revenue expenditure (salaries, subsidies, interest payments), which funds current operations, capex has a high multiplier effect. It creates jobs, boosts demand for core industries like steel and cement, enhances logistical efficiency, and lays the groundwork for future private investment and economic activity.
In H1 FY26, this strategy was executed with remarkable intensity. The Centre’s budgetary capex rose by a steep 40% year-on-year, reaching ₹5.8 lakh crore. This sum constitutes 51.8% of the annual capex target of ₹11.2 lakh crore, indicating a significant front-loading of investment. This is a substantial leap from H1 FY25, when only 39% of the annual capex target had been utilized.
It is crucial to understand the base effect at play here. The 40% surge is partly magnified by a 15% year-on-year fall in capex witnessed in H1 FY25, a period that experienced an election-related lull in project execution. However, even accounting for this base effect, the momentum is strong, as evidenced by a robust 31% year-on-year growth in capex in September 2025 alone.
The economic impact of this spending spree is already visible. The Indian economy expanded at a higher-than-anticipated rate of 7.8% in Q1 (April-June) of FY26. Analysts widely attribute this strong performance to the government’s sustained public investment, which has helped counterbalance global headwinds and sluggish private consumption in certain sectors. By injecting capital directly into the infrastructure pipeline, the government has acted as the primary driver of demand, ensuring that the economic recovery remains on a firm footing.
The front-loading also implies a projected slowdown in capex in the second half of the year (H2 FY26). As per the report, capex could contract by about 15% in H2FY26 and still meet the annual target. This is a typical pattern when spending is accelerated early in the year to align with the construction season and to provide an immediate economic impulse.
The Revenue Conundrum: Contracting Tax Receipts
While expenditure is racing ahead, the revenue side of the ledger tells a more nuanced and concerning story. The Centre’s net tax receipts contracted by 2.8% in H1 FY26 to ₹12.29 lakh crore. This decline can be attributed to a confluence of three key factors:
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Direct Tax Relief: The Union Budget for FY26, presented in February 2025, likely included provisions for income tax relief for certain segments of taxpayers. While this puts more money in the hands of individuals and can stimulate consumption, it has an immediate and direct impact on the government’s tax kitty.
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Modest Growth in Indirect Taxes: Collections from Goods and Services Tax (GST) and other indirect taxes have shown only modest growth. This suggests that while formalization of the economy continues, the overall consumption demand, particularly for high-value goods, may not be firing on all cylinders. It could also reflect efficiency gains in the GST system leading to lower tax leakage, which, while positive for the economy, can moderate collection growth.
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Front-loaded Tax Devolution: The Centre has also front-loaded the devolution of taxes to state governments, which saw a 16% year-on-year increase. This is a positive step for fiscal federalism, as it provides states with timely funds for their own development projects. However, it reduces the net tax revenue available to the central government in the short term.
The gross tax revenue (before devolution to states) grew by a meager 2.8% year-on-year, which is below the nominal GDP growth rate, indicating a potential slowdown in the underlying tax base or the impact of policy changes.
Aditi Nayar, Chief Economist at Icra, highlighted this challenge, noting that achieving the full-year budgeted tax target would require an “asking growth rate of over 21% in H2FY26.” She expressed apprehension that taxes are likely to “undershoot the budgeted target,” pointing to a significant revenue shortfall that the government will have to manage.
The Silver Lining: A Surge in Non-Tax Revenue
Offsetting the weakness in tax revenues is a stellar performance in non-tax revenue. This stream surged by 30.5% year-on-year to ₹4.6 lakh crore in H1 FY26. The primary driver for this windfall has been the receipt of a higher-than-budgeted dividend from the Reserve Bank of India (RBI).
The RBI’s dividend is a function of its surplus, which is influenced by factors such as income from foreign currency assets, domestic bond trading, and the central bank’s operational efficiency. A larger-than-expected transfer provides a crucial fiscal cushion to the government, allowing it to maintain its spending commitments without further widening the deficit. This bonanza is a critical element in the government’s plan to stay on the fiscal consolidation path.
The Big Picture: Is the FY26 Fiscal Deficit Target of 4.4% Achievable?
The ultimate question arising from this H1 data is whether the government can still achieve its stated fiscal deficit target of 4.4% of GDP for FY26, down from an estimated 4.5% or higher in FY25.
The path is undoubtedly challenging. The deficit is already at 36.5% of the target, tax revenues are underperforming, and the full impact of any additional welfare or subsidy spending later in the year remains to be seen.
However, official sources and most analysts remain cautiously optimistic. The government has several levers to pull:
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Expenditure Rationalization: As the year progresses, the government can exercise control over non-essential revenue expenditure. Savings on subsidies, particularly if global commodity prices remain benign, can create significant fiscal space.
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Robust Non-Tax Revenue: The RBI dividend provides a major buffer. There may also be other streams, such as proceeds from disinvestment or spectrum auctions, that could contribute later in the year.
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Capex Slowdown in H2: The anticipated 15% contraction in capex in the second half will naturally reduce the spending pressure.
Aditi Nayar’s assessment encapsulates this view: *“As of now, we expect the typical trend of expenditure savings and higher than budgeted non-tax revenues to be able to absorb any shortfall in tax revenues, and do not foresee a material slippage relative to the Government of India’s FY26 fiscal deficit target.”*
Conclusion: A Strategic Wager on Tomorrow’s Growth
The H1 FY26 fiscal numbers reveal a government steadfast in its commitment to a growth-centric model. By choosing to front-load capital expenditure, it has willingly accepted a short-term widening of the fiscal deficit to secure long-term economic dividends. This strategy is predicated on the belief that the multiplier effect of high-quality infrastructure spending will catalyze private investment, boost productivity, and ultimately expand the tax base itself, leading to higher revenues in the future.
The immediate risks are clear: a reliance on one-off items like the RBI dividend and the need for stringent expenditure control later in the year. The contraction in net tax receipts is a yellow flag that warrants close monitoring, as it reflects underlying pressures in the economy.
In essence, the government is walking a tightrope. On one side is the imperative of fiscal discipline and consolidation to maintain macroeconomic stability and India’s hard-earned credibility with global investors. On the other is the urgent need to fuel economic growth, create jobs, and build the India of the 21st century. The H1 FY26 data shows that for now, the government is leaning heavily into the latter, betting that today’s strategic investments will pave the way for a more prosperous and fiscally sound tomorrow. The success of this high-stakes wager will define India’s economic trajectory for years to come.
Q&A Based on the Article
Q1: The fiscal deficit for H1 FY26 has widened to 36.5% of the annual target, compared to 29.4% in the previous year. What is the primary reason for this increase?
A1: The primary reason for the increase in the fiscal deficit is a deliberate and substantial surge in capital expenditure (capex). The government has aggressively front-loaded its spending on infrastructure projects, with capex rising by 40% year-on-year. This accelerated spending outpaced the growth in revenues, leading to a larger deficit in the first half of the year. While moderating tax revenues are a contributing factor, the strategic decision to boost public investment is the main driver behind the widening deficit.
Q2: The article mentions a “base effect” in relation to the 40% capex growth. What does this mean in this context?
A2: In this context, the “base effect” refers to the fact that the spectacular 40% growth in capex in H1 FY26 is partly amplified by a particularly weak performance in the same period of the previous year (H1 FY25). Capex in H1 FY25 had fallen by 15% due to an election-related lull in project execution. Therefore, the current high growth rate is calculated from a depressed base, making the percentage increase appear larger. However, the strong 31% growth in September 2025 alone confirms that the momentum is genuinely robust, even after accounting for the base effect.
Q3: Despite the capex surge, net tax revenues contracted by 2.8%. What are the three key factors cited for this contraction?
A3: The three key factors for the contraction in net tax revenues are:
1. Income Tax Relief: The Budget for FY26 provided direct tax relief to individuals, which reduced collections from income tax.
2. Modest Indirect Tax Growth: Collections from GST and other indirect taxes showed only modest growth, reflecting potential softness in certain segments of consumption demand.
3. Front-loaded Tax Devolution: The central government transferred a larger share of taxes to state governments early in the fiscal year (a 16% increase), which reduced the net amount retained by the Centre.
Q4: How has non-tax revenue performance helped the government’s fiscal position, and what was the main contributor?
A4: Non-tax revenue performance has provided a critical fiscal cushion, helping to offset the weakness in tax collections. It surged by 30.5% year-on-year to ₹4.6 lakh crore in H1 FY26. The main contributor to this surge was the receipt of a higher-than-budgeted dividend from the Reserve Bank of India (RBI). This windfall gives the government additional financial space to manage its deficit without cutting essential expenditure.
Q5: Analysts like Aditi Nayar are apprehensive about tax revenues meeting the annual target, yet they do not foresee a “material slippage” in the fiscal deficit goal. Why is that?
A5: Analysts do not foresee a material slippage from the 4.4% of GDP fiscal deficit target because they expect other factors to compensate for the likely shortfall in tax revenues. Specifically, they anticipate:
* Expenditure Savings: The government typically identifies and saves on non-essential revenue expenditure later in the year.
* Higher Non-Tax Revenues: The higher-than-budgeted RBI dividend and potential other inflows will help bridge the revenue gap.
* Slowing Capex in H2: The front-loading of capex means it will naturally slow down in the second half, reducing overall spending pressure.
This combination of factors is expected to absorb the tax revenue shortfall, allowing the government to meet its deficit target.
