India is to boost spending on primary schools and health in a budget flagged as a boost for the ordinary citizen.
Mr Chidambaram has a balancing act to perform
India's defence budget has also been raised 7.8% to 830bn rupees ($19bn).
The priority for Finance Minister Palaniappan Chidambaram is to fight poverty and keep the government's Communist allies onside.
But his options are limited by a new law which makes him cut the budget deficit, which he said would be 4.5% of GDP in the year to March 2005.
The country's overall deficit is thought to be more than 10%, if the spending of India's 35 states and territories is included.
Under the fiscal responsibility law, Mr Chidambaram has to trim the deficit by 0.3 percentage points each year, a target he says he has now met for the current year.
But the heavy spending on poverty reduction means the 2005-6 target for the deficit will be 4.3%, Mr Chidambaram said - falling short of the new law's requirement.
"I was left with no option but to press the pause button vis a vis the act," he said.
The following year, though, would have to be back on track, he warned.
"I may add that we are perilously close to the limits of fiscal prudence and there is no more room for spending beyond our means," he said.
The coming year's reduction has meant bringing more of the businesses in India's burgeoning services sector into the tax system and restructuring the personal tax system, although there are numerous corporate tax and duty reductions built into the budget.
Presenting his budget in the lower house of parliament, Mr Chidambaram said the Indian economy was performing strongly and that inflation has been reined in.
He said India's economy grew 6.9% in 2004. In his budget Mr Chidambaram has:
- Increased spending on primary education to 71.56bn rupees ($1.6bn)
- Increased spending on health to 102.8bn rupees ($2.35bn)
- Announced that 80bn rupees ($1.8bn) will be spent on building rural infrastructure
- Pledged 102.16bn rupees ($2.3bn) for tsunami victims
- Increased flow of funds to agriculture by 30%
- Announced a package for the sugar industry
In addition, up to 100bn rupees ($2.3bn) to be spent on infrastructure will be sourced by borrowing against the country's foreign exchange reserves, keeping budgeted spending under control.
"Given the resilience of the Indian economy... it is possible to launch a direct assault on poverty," Mr Chidambaram said.
"The whole purpose of democratic government is to eliminate poverty."
The new Indian government, led by the Congress Party, was voted into power last May after it pledged to introduce economic reforms with a "human face".
The finance minister says he is committed to continue reforming India's tax system while expanding the tax base.
As part of his reforms he has announced:
- Duty cuts on capital goods and raw materials
- Expanded service tax net
- Raised the income-tax threshold to 100,000 rupees ($2,300)
- Reduced income tax for those earning less than 250,000 rupees ($5,700) to 20%
- Reduced corporate tax rates to 30%
An annual economic survey released on Friday said India needed to ease limit restriction on foreign investment, reform labour laws and cut duties apart from widening the tax base for long-term economic growth.
But Mr Chidambaram is under pressure from the Communist parties to focus on increasing social spending.
The Communists are also hostile to measures seeking to increase foreign investment and allow companies to hire and fire employees at will.
In recent months, they have expressed their displeasure at the government's economic reform plans including increasing foreign direct investment in telecommunication and aviation.
In his last budget, Mr Chidambaram had pledged billions of dollars for improving education and health services for the poor as well as special assistance for farmers.