Vishleshan for Regulatory Exams: Check Daily News Analysis 1st July 2025

To ace your preparation for the UPSC, RBI, SEBI, or NABARD exam, you have to stay updated about key economic and regulatory updates. In today’s edition of Vishleshan, we delve into a significant topic:  India’s Q1 Fiscal Deficit – 0.8% of the Annual Target and Bad Loans to Rise to 2.7% by FY27 – Financial Stability Report June 2025. These issues are highly relevant for competitive exams and offer valuable insights into India’s evolving economic scenario. Keep reading to stay ahead with a clear understanding of these current updates.

ALSO CHECK: News Analysis of 27th June 2025 

Also, know why RBI Grade B Phase 1 Exam: The Silent Eliminator of 99% Aspirants & What is the Finance and Management Syllabus for RBI Grade B Exam?

India’s Q1 Fiscal Deficit – 0.8% of the Annual Target

Context: Experts said India’s fiscal position showed a marked improvement in the first two months of FY26. The Union government’s cumulative fiscal deficit at 0.8% of the full-year target is the lowest level since the Centre began publishing monthly fiscal data in April 1997.

Source: Mint

India’s fiscal performance in the initial months of FY26 has shown a “marked improvement,” with the fiscal deficit hitting its lowest level since monthly data publication began in 1997. This strong start, characterized by robust non-tax revenue growth and a significant increase in capital expenditure, positions the Union government favourably on its path toward fiscal consolidation, aiming for a deficit of 4.4% of GDP by 2025-26. However, challenges such as slower-than-budgeted tax revenue growth and evolving economic landscapes necessitate careful monitoring to ensure the full-year target remains achievable.

What is Fiscal Deficit and How is it Related to Revenue and Capital Budgets?

Fiscal Deficit represents the total borrowing requirement of the government. It is the shortfall between the government’s total expenditure and its total receipts, excluding borrowings. In simpler terms, it’s the amount of money the government needs to borrow to finance its expenses when its current income is insufficient.

Formula:

• Fiscal Deficit = Total Expenditure – Total Receipts (excluding borrowings)
• Alternatively, Fiscal Deficit= (Revenue Expenditure + Capital Expenditure) – (Revenue Receipts + Non-Debt Capital Receipts)

Relation with Revenue and Capital Budgets:

• Revenue Budget: Deals with the government’s current receipts (revenue receipts) and current expenditures (revenue expenditure).
  • Revenue Receipts: These are current, regular, and non-redeemable receipts. They primarily include:
    • Tax Revenue: Income tax, Corporate tax, Goods and Services Tax (GST), Customs duties, Union excise duties.
    • Non-Tax Revenue: Dividends and profits from Public Sector Undertakings (PSUs) and the Reserve Bank of India (RBI), interest receipts on loans given by the government, external grants. The article highlights “strong growth in non-tax revenue” from RBI dividend and asset monetization/disinvestment. In April-May FY26, non-tax revenue jumped to ₹3.57 trillion (61.2% of annual estimate).
  • Revenue Expenditure: Incurred for the normal functioning of government departments and provision of various services. These do not create assets. Examples include interest payments on debt, subsidies, salaries, pensions, and defence sector’s non-capital expenditure. In April-May FY26, revenue expenditure stood at ₹5.25 trillion (13.3% of annual estimate).
• Capital Budget: Deals with the government’s capital receipts and capital expenditure.
  • Capital Receipts: Are either non-debt creating or debt creating.
    • Non-Debt Capital Receipts: Recoveries of loans and advances, and proceeds from disinvestment of PSUs or asset monetization. The article mentions “non-debt creating capital receipts (asset monetization and disinvestment)”.
    • Debt Capital Receipts: Primarily borrowings from the market, RBI, or external sources. These are what the fiscal deficit ultimately represents.
  • Capital Expenditure (CapEx): Incurred for creating long-term assets like infrastructure (roads, bridges, ports), machinery, equipment, etc., and for providing loans and advances to states/UTs and PSUs. In April-May FY26, capital outlay surged to ₹2.21 trillion (19.7% of annual target).

Why a Country Has to Keep Fiscal Deficit in Check?

Keeping the fiscal deficit in check is crucial for macroeconomic stability and sustainable growth:

• Inflationary Pressures: A sharp rise in fiscal deficit can lead to “inflationary pressures” if the government resorts to excessive borrowing from the central bank (monetization of deficit) or if increased government spending fuels demand beyond the economy’s productive capacity.
• Rising Public Debt and Debt Servicing: Higher deficits necessitate more borrowing, leading to an increase in public debt. This, in turn, escalates debt servicing costs (interest payments), consuming a larger portion of government revenue that could otherwise be used for development or social welfare.
• Crowding Out Private Investment: When the government borrows heavily from the market, it can absorb a large portion of available financial resources, potentially driving up interest rates. This makes it more expensive for the private sector to borrow, thereby “impacting private investments” (known as the crowding-out effect).
• Erosion of Investor Confidence: Uncontrolled fiscal deficits can signal fiscal profligacy and poor financial management to domestic and international investors. This can lead to a loss of confidence, capital flight, and currency depreciation.
• Credit Rating Impact: High and persistent deficits can result in downgrades of a country’s credit rating, making it more expensive for both the government and private entities to borrow from international markets.
• Inter-generational Equity: High deficits today mean future generations will bear the burden of servicing the accumulated debt, impacting inter-generational equity.

Fiscal Deficit Targets as per the FRBM Act:

The Fiscal Responsibility and Budget Management (FRBM) Act, 2003, provides the statutory framework for fiscal discipline in India.

• Objectives: The FRBM Act was enacted to ensure fiscal prudence, reduce fiscal deficit, and eliminate revenue deficit, thereby promoting long-term macroeconomic stability.
• Targets: The Act initially aimed to bring down the fiscal deficit to 3% of GDP by a specific timeframe. However, these targets have been revised over time. The Centre’s current fiscal consolidation roadmap, adopted in 2021-22, aims to reduce the fiscal deficit to below 4.5% of GDP by 2025-26.
• “Escape Clause”: The FRBM Act includes an “escape clause” (formally known as the “deviation clause” or “emergency provisions”). This provision allows the government to deviate from the prescribed fiscal targets under exceptional circumstances, such as:
  • National security threats or acts of war.
  • National calamities.
  • Collapse of agriculture severely affecting outputs and incomes.
  • Structural reforms in the economy with unanticipated fiscal implications.
  • The deviation should not exceed a specified percentage (e.g., 0.5% of GDP) in a particular year, and the government must provide an explanation to Parliament. This clause provides necessary flexibility to the government to respond to unforeseen economic shocks without rigidly adhering to targets.

Analysis of the Article: Decoding India’s Fiscal Performance

The article provides a snapshot of India’s robust fiscal performance in the early months of FY26, highlighting key drivers and underlying trends.

1. Marked Improvement in Fiscal Deficit:

• For April-May FY26, the Union government reported a fiscal deficit of ₹13,163 crore, amounting to just 0.8% of the full-year target.
• This is a significant improvement from ₹50,615 crore in the same period last year (FY25).
• This 0.8% of the full-year target is the lowest level since monthly fiscal data began in April 1997.

2. Key Drivers of Fiscal Improvement:

• Strong Non-Tax Revenue: Non-tax revenue “jumped to ₹3.57 trillion (61.2% of the full-year estimate)“. This was mainly driven by “RBI (Reserve Bank of India) dividend and non-debt creating capital receipts (asset monetization and disinvestment)”. This “more than offset the shortfall” in tax revenue growth.
• Front-Loaded Capital Expenditure Push: Front-loaded capital expenditure (or front-loading of CapEx) means prioritizing and spending a larger portion of a budget on capital projects earlier in a project’s lifecycle or a fiscal year. This strategy aims to maximize the impact of investments in the initial stages, often when the ability to influence design and costs is highest. It’s a deliberate approach to spending, shifting the focus from later stages to the beginning.
  • Capital outlay surged to ₹2.21 trillion (19.7% of the annual target) in April-May FY26, a “marked increase” from ₹1.44 trillion in the same period a year ago.
  • This reflects “front-loaded expenditure in early FY26” after it “had slowed during the first quarter of FY25 due to the national election”.
  • The annual budgeted capital expenditure growth of 10.1% is being frontloaded with the growth in GoI’s capital expenditure in the first two months being 54.1%.

3. Mixed Trends and Outlook:

• Overall Expenditure: Total expenditure rose to ₹7.46 trillion (14.7% of full-year target) in April-May FY26, up from ₹6.23 trillion in the year-earlier period.
• Revenue Expenditure: Stood at ₹5.25 trillion (13.3% of full-year estimate), up from ₹4.80 trillion.
• Net Tax Collections: Reached ₹3.51 trillion (12.4% of annual goal). While “slower than budgeted,” collections for April and May touched 13.7% of the full-year target, the highest on record for this period, largely due to a “low growth target for FY26”.
• Mixed Fiscal Aggregates: Other fiscal aggregates show “mixed trends” compared to FY25, with personal income tax collections moderating to 6.4% during April-May FY26, down from 17% for the full year in FY25.
• Balancing Act: Policymakers face the “delicate task of balancing growth-supportive spending with fiscal restraint”.
• Future Targets: The government was reportedly considering a shift to a fiscal target range of 3.7% to 4.3% beyond FY26, providing “greater flexibility in navigating economic uncertainties”.
• Transitory Performance: Economists expect the early fiscal performance to be “quite transitory” and gradually move towards budgeted growth rates, but acknowledge that “it is too early to conclude the achievability of FY26 fiscal deficit targets”. Strong non-tax collections and non-debt creating capital receipts “may compensate for slippage in FY26 tax collection”.

In conclusion, India’s strong fiscal start to FY26, driven by higher non-tax revenues and a front-loaded capital expenditure push, provides a significant boost to its fiscal consolidation efforts. While the path to the 4.4% GDP target seems well-supported, particularly by one-off receipts like RBI dividends, challenges related to tax revenue growth and the dynamic economic landscape necessitate continuous monitoring and a balanced approach to sustain fiscal health.

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Bad Loans to Rise to 2.7% by FY27 – Financial Stability Report June 2025

Context: The regulator conducts stress tests to assess the banking system’s resilience to various types of shocks. It found that banks’ capital buffers would remain adequate even under severe stress.

Source: Mint

The Reserve Bank of India (RBI) has released its Financial Stability Report (FSR), revealing the results of stress tests conducted on the top 46 banks and a sample of 158 Non-Banking Financial Companies (NBFCs). The report projects a marginal rise in bad loans for banks but assures that their capital buffers will remain adequate even under severe stress scenarios. For NBFCs, while a few may breach minimum capital requirements under stress, the sector’s overall resilience appears strong. This half-yearly report serves as a crucial assessment of the Indian financial system’s robustness against various shocks.

Conceptual Framework:

These are critical metrics used to assess the health and stability of banks and financial institutions.

Gross Non-Performing Assets (GNPA):

• Definition: GNPA refers to the total value of all non-performing assets (NPAs) held by banks before making any provisions for bad debts. An asset (typically a loan or advance) becomes non-performing when it ceases to generate income for the bank (e.g., when interest and/or principal payments are overdue for a specified period, typically 90 days).
• Formula: GNPA = Sum of all non-performing loans/advances.
• RBI’s Projection: The RBI projected that the aggregate GNPA ratio of the top 46 banks may rise from 2.3% in March 2025 to 2.5% in March 2027 under the central bank’s baseline stress scenario. Under the first adverse scenario (geopolitical risk), GNPA may rise to 5.6%, and under the second adverse scenario (growth slowdown), it may rise to 5.3%.
• For NBFCs, the system-level GNPA ratio of the sample NBFCs is seen rising from 2.9% in March 2025 to 3.3% in March 2026 under the baseline scenario.

Net Non-Performing Assets (NNPA):

• Definition: NNPA is the value of NPAs after deducting provisions that banks have made for potential losses from these bad loans. It gives a more realistic picture of the actual burden of bad loans on a bank’s balance sheet.
• Formula: NNPA = GNPA – Provisions.

Capital Adequacy Ratio (CAR) or Capital to Risk-Weighted Assets Ratio (CRAR):

• Definition: CRAR is a measure of a bank’s capital in relation to its risk-weighted assets. It indicates a bank’s ability to absorb potential losses from its assets. Risk-weighted assets (RWAs) are calculated by assigning weights to different assets based on their riskiness (e.g., a loan to a government may have a lower risk weight than a loan to a small business).
• Formula: CRAR = (Tier 1 Capital + Tier 2 Capital) / Risk-Weighted Assets.
  • Tier 1 Capital (Core Capital): Includes equity capital, disclosed reserves, and non-cumulative perpetual preferred stock. It is the highest quality of capital and can absorb losses immediately.
  • Tier 2 Capital (Supplementary Capital): Includes revaluation reserves, undisclosed reserves, hybrid debt capital instruments, and subordinated debt. It is lower quality capital but can also absorb losses.
• Regulatory Requirement by RBI for Banks: The RBI sets minimum CRAR requirements for banks to ensure their financial soundness. The article states the regulatory minimum requirement is 9%. For NBFCs, the regulatory minimum capital requirement is 15%.
• How does CRAR help banks during the stressed phase of high NPAs:
  • Loss Absorption: A high CRAR provides a buffer against unexpected losses, including those arising from a surge in NPAs. When loans turn bad, banks incur losses, which reduce their capital. A strong capital base ensures that these losses do not deplete the bank’s capital below regulatory minimums, preventing insolvency.
  • Maintains Confidence: Adequate capital signals financial strength to depositors, investors, and regulators, maintaining confidence in the banking system even during stressed periods.
  • Supports Lending: Banks with sufficient capital are better positioned to continue lending to the economy even when NPAs are high, supporting economic activity rather than contracting credit.
  • Regulatory Compliance: It ensures banks remain compliant with RBI regulations, avoiding penalties and other supervisory actions.

Financial Stability Report (FSR) and Financial Stability and Development Council (FSDC):

Financial Stability Report (FSR):

• Who publishes it: The Reserve Bank of India (RBI) publishes the FSR.
• Frequency of publishing: It is a half-yearly report.
• Purpose of the report: The FSR assesses the banking system’s resilience to various types of shocks, including macroeconomic, liquidity or market risk, and credit concentration. It provides a comprehensive review of the health, stability, and vulnerabilities of the Indian financial system. The report presents stress test projections under different scenarios (baseline and adverse) over a two-year horizon.

Financial Stability and Development Council (FSDC):

• Formation Year: The FSDC was formed by the Government of India in 2010.
• Committee which proposed it: It was proposed by the Raghuram Rajan Committee on Financial Sector Reforms (2008).
• Members: The FSDC is chaired by the Union Finance Minister. Its members include the heads of financial sector regulators (RBI, SEBI, IRDAI, PFRDA), the Finance Secretary, Secretary of the Department of Economic Affairs, Chief Economic Adviser, and other key officials.
• Mandate/Purpose: The FSDC’s mandate is to bring about financial sector reforms, promote financial stability, enhance inter-regulatory coordination, and foster financial sector development. It provides a high-level forum for macro-prudential supervision of the economy.

Sub-Committee of the FSDC:

• The FSDC has a Sub-Committee typically chaired by the Governor of the Reserve Bank of India (RBI). Its members include the Deputy Governors of RBI, chairpersons of SEBI, IRDAI, PFRDA, and other senior government officials.
• Purpose: The Sub-Committee discusses various financial stability issues, inter-regulatory matters, and prepares notes and inputs for the main FSDC council.

Analysis of the Article: Decoding the Financial System’s Resilience

The RBI’s latest FSR provides a reassuring assessment of the Indian banking system’s resilience, despite projected increases in bad loans under stress scenarios. The report’s detailed stress tests highlight both the overall strength and specific vulnerabilities within the financial ecosystem.

1. Banks’ Bad Loan Projections (GNPA):

• Baseline Scenario: The aggregate GNPA ratio of the top 46 banks is projected to rise marginally from 2.3% in March 2025 to 2.5% in March 2027. This indicates a relatively stable outlook under normal conditions.
• Adverse Scenarios:
  • Scenario One (Geopolitical Risk): GNPA ratio may rise to 5.6%. This scenario assumes a volatile global environment with heightened geopolitical risks, escalation of global financial market volatility, and supply chain disruptions, leading to higher domestic inflation and tighter monetary policy.
  • Scenario Two (Growth Slowdown): GNPA ratio may rise to 5.3%. This scenario assumes a synchronised sharp growth slowdown in key global economies and spillovers through trade and financial channels, denting domestic GDP growth and leading to easier monetary policy.
• Deviation in Reporting: The RBI deviated from earlier FSR versions by not providing a break-up of stress impact on public sector banks versus private peers.

2. Banks’ Capital Buffers (CRAR) Remain Adequate:

• Baseline Scenario: Aggregate CRAR of 46 major banks will marginally dip to 17% by March 2027 from 17.2% in March 2025. Common Equity Tier-I capital is seen rising from 14.6% to 15.2%.
• Adverse Scenarios:
  • CRAR may dip to 14.2% under adverse scenario one and to 14.6% under adverse scenario two.
  • Critically, the tests indicate that “none of the banks would fall short of the regulatory minimum requirement of 9% even under severe stress”.
  • Common Equity Tier-I falls to 12.5% under the first adverse scenario and 12.9% under the second, with “no bank breaching the 5.5% regulatory requirement”.

3. Credit Concentration Risk Assessment:

• Top Individual Borrowers Default: In the extreme scenario of the top three individual borrowers of respective banks defaulting, system-level CRAR would decline by 90 basis points, but “no bank would see the CRAR drop below 9%”. However, “four banks would experience a fall of more than two percentage points in their CRARs”.
• Top Group Borrowers Default: If the top three group borrowers in the standard category fail to repay, system-level CRAR would decline by 130 bps. Again, no bank would fall below the 9% regulatory minimum.

4. Liquidity Risk Assessment:

• Bottom-up stress tests for liquidity risk showed that “liquid assets ratios of all banks would remain positive under alternate shock scenarios”. This emphasizes the adequacy of their High-Quality Liquid Assets (HQLAs).
• Deposit Run-off Scenarios:
  • 10% deposit runoff in 1-2 days: Average liquid assets ratio would drop from 23% to 16.2%.
  • 3% deposit run-off for 5 consecutive days: Ratio would drop to 12.5%.

5. Contagion Impact Analysis:

• Interconnectedness: Contagion analysis uses “network technology to estimate the systemic importance of different financial institutions and the impact of a failure of a bank on the financial system, depending on its interconnections with the rest of the banking system”.
• Failure of Max Contagion Lender: Hypothetical failure of “the lender with the maximum capacity to cause contagion losses” would cause a solvency loss of 3.4% of total Tier-I capital, and a liquidity loss of 0.3% of total HQLA of the banking system.
• NBFC/HFC Failure Impact:
  • NBFCs and Housing Finance Companies (HFCs) are significant borrowers from banks, creating potential solvency shocks for their lenders.
  • Hypothetical failure of the NBFC with maximum capacity to cause solvency losses to the banking system could knock off 2.9% of a bank’s total Tier-1 capital, but “would not lead to the failure of any bank”.
  • Hypothetical failure of the biggest HFC would result in a hit of 3.7% to the bank’s total Tier-1 capital, “but without the failure of any other bank”.

6. NBFCs’ Resilience:

• RBI conducted a system-level stress test on 158 NBFCs over a one-year horizon.
• Baseline Scenario (NBFCs): System level GNPA ratio of sample NBFCs is seen rising from 2.9% in March 2025 to 3.3% in March 2026. Aggregate CRAR dipping from 23.4% to 21.4%.
• Breaching Regulatory Minimum: Under the baseline, 10 NBFCs (all in the middle layer), with a share of 2.1% of total advances, “may breach the regulatory minimum capital requirement of 15%”.
• Medium and Severe Risk Scenarios (NBFCs): CRAR may further reduce by an additional 80 bps (medium) and 100 bps (severe). Under the high-risk scenario, 15 NBFCs (all in the middle layer), with a share of 3.7% of total advances, “may not be able to meet the regulatory minimum CRAR”.

In conclusion, the RBI’s FSR paints a largely reassuring picture of India’s financial system resilience. While bad loans may tick up under stress, the banking sector appears adequately capitalized to withstand severe shocks. The detailed stress tests, including those on credit concentration, liquidity, and contagion, indicate robust buffers. Though some NBFCs might face capital shortfalls under adverse conditions, the overall financial system’s interconnectedness and stability seem well-managed, suggesting confidence in its ability to navigate potential future headwinds.