Introduction

Inflation in India has sharply declined in recent months, with CPI inflation at 2.27% (Aug 2024) and WPI inflation at just 0.52%. While households welcome subdued prices, this development has unsettled the government’s fiscal math. Nominal GDP growth, which forms the base for budget projections, has weakened. As a result, targets for revenue, deficit, and debt are under stress. This shift highlights the complex relationship between inflation, nominal GDP, and fiscal sustainability.

The Problem with Low Inflation

Why is low inflation in the news?

India is currently witnessing one of the weakest inflation trajectories in recent years, with both CPI and WPI at historic lows. This is striking because inflation had been consistently higher earlier, often troubling households and RBI alike. Now, for the first time in years, inflation is falling so low that it is below the government’s own expectations, threatening fiscal stability. While consumers benefit from cheaper goods, the government risks losing lakhs of crores in projected revenue.

Breaking Down the Fiscal Arithmetic

What is the link between inflation and government finances?

1. GDP measure: Nominal GDP = monetary value of goods/services at current prices, before adjusting for inflation.
2. Government’s reliance: Budget estimates are framed on nominal GDP, not real GDP.
3. Importance: Nominal GDP forms the denominator for deficit and debt ratios, making it central to fiscal health.

How is low inflation disrupting budget math?

1. Union Budget FY25-26 assumption: Nominal GDP growth at 10.5%, implying GDP of ₹357 lakh crore.
2. Reality: Q1 nominal GDP growth just 8%, well below target.
3. Revenue impact: FY26 central govt. net tax revenue projected at ₹33.1 lakh crore; lower inflation could cut receipts by ₹57,314 crore.

Why is nominal GDP growth so crucial?

1. Fiscal deficit & debt ratio: Targets (fiscal deficit 4.4%, debt-GDP ratio 56.1%) are achievable only if nominal GDP grows as expected.
2. Current scenario: With weak inflation, nominal GDP falls, making deficit/debt appear larger relative to GDP.
3. Result: Fiscal stress and need for adjustments in spending or borrowing.

Is low inflation always bad?

1. Positive side: Consumers enjoy stable prices, reduced cost of living, relief from food price spikes.
2. Negative side: Weak inflation = lower nominal GDP = poor revenue realization for the government.
3. RBI view: Deputy Governor (May 2024) warned that while lower prices help consumers, oversupply and weak pricing power can dampen private investment and industrial margins.

What are the long-term risks?

1. Corporate health: Lower pricing power can affect profits, discouraging capex.
2. Employment: Weak demand growth can limit job creation.
3. Cycle of slowdown: Weak inflation → lower nominal GDP → fiscal squeeze → reduced spending → slower growth.

Conclusion

Low inflation, though a blessing for households, poses structural challenges for India’s fiscal health. When inflation falls below government assumptions, it erodes revenue potential and distorts deficit ratios, threatening fiscal sustainability. Policymakers thus face the paradox of balancing consumer welfare with fiscal prudence. For India, the task ahead is not merely curbing inflation but maintaining it at an optimal, stable level to sustain growth, revenue, and investment.

PYQ Relevance

[UPSC 2019] Do you agree with the view that steady GDP growth and low inflation have left the Indian economy in good shape? Give reasons in support of your arguments.

Linkage: The question assumes that low inflation alongside steady GDP growth indicates economic strength. However, as the article shows, low inflation with weak nominal GDP growth can actually strain fiscal math, reduce revenues, and slow investment. Thus, while consumers benefit, the economy may not necessarily be in “good shape” if fiscal sustainability and growth momentum are undermined.

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