ESI Answer Bank Part 4: Budget, Fiscal Policy and Federalism (5 Model Answers for RBI Grade B)

This is Part 4 of our ESI answer bank. Fiscal questions appear every year, and the 2027 Budget (1 February 2027) will give fresh numbers. Use the frameworks below and plug in the latest data. Revise with our Budget 2026-27 summary.

Q1. The Budget 2026-27 targets a fiscal deficit of 4.3% and shifts to a debt anchor. Explain the significance. (175 words)

Answer: The Centre’s fiscal deficit target for 2026-27 is 4.3% of GDP, down from 4.4% in 2025-26 and a peak of 9.2% in 2020-21. From now on, the main fiscal goal is to bring central government debt to 50% ± 1% of GDP by 2030-31 (55.6% in 2026-27).

Why a debt anchor?

1. Debt is the stock that matters for sustainability; the deficit is only the yearly flow.
2. It gives flexibility: the deficit can rise a little in bad years if debt stays on the path.
3. Lower debt means lower interest payments, which now take about a quarter or more of revenue receipts (approx).

Benefits:

• More room for capital spending and social programmes.
• Better credit ratings and lower borrowing costs.
• Less crowding out of private borrowers.

Risks: slower nominal growth or new shocks (like the 2026 oil spike) could make the path harder.

Conclusion: The shift aligns India with global best practice. Credible numbers and transparent off-budget borrowing are key to making the anchor work.

Q2. Discuss the key recommendations of the 16th Finance Commission. (180 words)

Answer: The 16th Finance Commission, chaired by Dr Arvind Panagariya, covers 2026-27 to 2030-31. Its report was submitted on 17 November 2025, and the government accepted the main recommendation.

Key recommendations:

1. Vertical devolution kept at 41% of the divisible pool.
2. New horizontal formula: income distance 42.5%, population 17.5%, demographic performance 10%, area 10%, forest and ecology 10%, and a new contribution to GDP criterion of 10%.
3. Tax effort criterion dropped.
4. Revenue deficit grants discontinued; about ₹9.47 lakh crore in grants, mainly for local bodies and disaster management.
5. Fiscal path: Centre to 3.5% fiscal deficit by 2030-31; states capped at 3% of GSDP; end off-budget borrowing.

Significance:

• Rewards states that contribute to growth, addressing southern states’ concerns.
• Pushes fiscal discipline at both levels.

Concerns: cesses and surcharges remain outside the divisible pool, which reduces states’ real share.

Conclusion: The 16th FC balances equity and efficiency, strengthening cooperative federalism.

Q3. Why has the government focused on capital expenditure? Explain the multiplier logic. (165 words)

Answer: Central capex rose from about ₹3.4 lakh crore in 2019-20 to ₹12.2 lakh crore in 2026-27 (BE), about 3–3.5% of GDP (approx).

Why capex?

1. Higher multiplier: studies by RBI and NIPFP estimate each rupee of capital spending raises output by about ₹2.5–3 over time, compared with less than ₹1 for revenue spending.
2. Crowds in private investment: better roads, rail and ports lower costs for business.
3. Creates long-term assets and jobs in construction.
4. Improves logistics, helping exports (PM Gati Shakti).

Challenges:

• Execution delays and cost overruns.
• Private investment has been slow to pick up fully.
• States’ capex depends on central support (50-year interest-free loans).

Way forward: Faster project clearances, asset monetisation, more PPP and a stable policy environment.

Conclusion: Public capex is the engine that keeps growth high while private investment recovers.

Q4. Evaluate GST after the 2025 rate rationalisation. (175 words)

Answer: GST, launched on 1 July 2017 through the 101st Constitutional Amendment, unified most indirect taxes. In September 2025, the GST Council simplified rates into mainly two slabs (5% and 18%) with a 40% rate for luxury and “sin” goods (approx).

Achievements:

1. One national market; check-posts removed, faster logistics.
2. Better compliance through e-invoicing and e-way bills; gross collections around ₹17.4 lakh crore in April–December 2025.
3. Lower tax on everyday items after the 2025 reform, supporting consumption.
4. Cooperative federalism through the GST Council (Article 279A).

Challenges:

• Compensation cess ending and states’ revenue worries.
• Exclusions: petroleum, alcohol and electricity remain outside GST.
• Litigation and frequent rule changes; GST Appellate Tribunal only recently operational.
• Compliance burden on small businesses.

Way forward: Bring fuel under GST gradually, keep rates stable, and use data analytics against fake invoices.

Conclusion: GST is India’s biggest tax reform; the 2025 rationalisation moved it closer to a “Good and Simple Tax”.

Q5. States’ finances are under stress due to freebies and off-budget borrowing. Discuss. (170 words)

Answer: States spend about 60% of general government expenditure, so their health matters for the whole economy.

Areas of stress:

1. Rising cash transfers and freebies (free power, unconditional transfers) without matching revenue.
2. Off-budget borrowing through state companies that hides the real debt.
3. Old Pension Scheme revival in some states, a large future liability.
4. Power DISCOM losses (though they posted their first profit in FY25).
5. High debt in some states (above 35–40% of GSDP).

Not all transfers are bad: well-targeted welfare (nutrition, girls’ education) improves human capital.

Measures:

• FRBM laws and the 16th FC’s cap of 3% of GSDP on deficits.
• Count off-budget borrowing in debt (as the Centre now does).
• Outcome-based welfare and better own-tax collection (property tax, stamp duty).
• RBI’s annual State Finances report as an early warning.

Conclusion: States need to balance welfare with sustainability, focusing spending on assets and human capital.

Practise next

1. “Explain the difference between revenue deficit and fiscal deficit with recent data.” (150 words)
2. “Discuss the role of the GST Council in cooperative federalism.” (150 words)

Related reading

• ESI answer bank: all parts
• Indian economy basics
• Union Budget 2026-27 summary

Model answers by the SyllabusBox Team. Update data on exam day from the latest Budget and Economic Survey.