Impact of Military Conflicts on Government Finances
Military conflicts between neighboring countries can severely impact government finances. India's experience during the Kargil war is a testament to this phenomenon, where fiscal calculations were significantly disrupted.
The Kargil War and Fiscal Implications
The Kargil war lasted a little over two months and had a substantial impact on India's fiscal calculations for 1999-2000. The then Finance Minister Yashwant Sinha aimed to reduce the fiscal deficit to 4% of GDP. However, the Kargil conflict led to a fiscal deficit of 5.2%, with expenditures exceeding estimates by 7% and tax collections falling short by 4%.
Comparative Analysis with Recent Events
Recent tensions between India and Pakistan are not directly comparable to the Kargil war due to the absence of political uncertainty and impending elections. However, the recent military escalation in May 2025 is expected to affect India's financial plans.
Current Fiscal Projections
Finance Minister Nirmala Sitharaman's budget for 2025-26 projects a fiscal deficit of 4.4% of GDP, relying on an 11% growth in net tax revenue and a 7% growth in expenditure.
Revenue Cushion from GST
- The government has a potential revenue cushion from GST collections. The GST compensation cess, extended till March 2026, is expected to generate ₹3.82 trillion from July 2022 to March 2025.
- This revenue is more than sufficient to repay a ₹2.7 trillion loan taken for compensating states during the Covid pandemic.
- In case of a revenue shortfall, excess GST collections could possibly be used to offset the shortfall after consulting with the states.
Expenditure Challenges
The border conflict increases pressure to enhance defence spending. Historically, India's defence expenditure has been around 1.5% of GDP, but in light of recent events, there is an expected push to increase this proportion.
Defence Spending Trends
- In 2024-25, defence expenditure, excluding pensions, increased by 3.4% and is proposed to escalate by 7.6% in the current year.
- The defence budget during the Kargil war was 2.4% of GDP, indicating a potential target level for current expenditure due to heightened tensions.
Options for Fiscal Management
The government faces choices in managing its fiscal deficit in light of increased defence expenditure:
- Adjusting the composition of expenditure by reducing capital expenditure to accommodate higher defence spending.
- Allowing a temporary pause in the fiscal deficit reduction plan, given the projected decrease in total debt to 56% of GDP in 2025-26.
Considering the growth-multiplier effect of capital expenditure, a minor delay in deficit reduction may be justified, especially under the circumstances of a border conflict.