(Updates details in paragraphs 1-2, updates markets, adds S&P report)
By Surojit Gupta and V. Ramakrishnan
NEW DELHI, Feb 16 (Reuters) - India's government projected spending may have to jump later this year to shield the economy from a global slump and stem job losses, fueling fears of a spiralling fiscal deficit that is headed for a seven-year high.
Acting Finance Minister Pranab Mukherjee charted government spending for the first four months of the 2009/10 fiscal year, but unveiled few populist measures in an interim budget ahead of a general election that must take place by May.
The fiscal deficit will rise to 6 percent of gross domestic product in 2008/2009, its highest since 6.1 percent in 2001/02, well above an original forecast of 2.5 percent after measures to boost growth. While the number was not a surprise, investors are worried the gap could widen further as the economy slows.
"Conditions in the year ahead are not likely to be normal and therefore the high fiscal deficit is inevitable," Mukherjee said during the interim budget presentation that takes care of essential spending during and immediately after an election.
"Planned expenditure for 2009/10 may have to be increased substantially at the time of the presentation of the regular budget if we are to give the economy the stimulus it needs," he told parliament.
The share market extended losses to 3 percent on investor disappointment that the interim budget was mostly packed with data about past economic achievements and did not set out further stimulus for industry.
Bond yields rose before the budget speech on fears of higher government borrowing in the coming year, and extended the move afterwards. The 2018 yield hit a high of 6.48 percent in afternoon trade from Friday's close of 6.17 percent.
"This is a political budget but does not give much confidence on how it will help revive growth," said Rupa Rege Nitsure, chief economist of the Bank of Baroda in Mumbai.
Mukherjee predicted a deficit of 5.5 percent of GDP in 2009/10, but implied this could rise if further economic stimulus was needed.
The mini-budget underscored how a new government could face huge pressure to increase spending while faltering economic growth may demand tax cuts.
"The buck has been passed on to the next government to provide both higher spending and further tax cuts after the elections," Nomura economist Sonal Varma said.
"Until then, with revenues slipping, government borrowing will remain high and this is a concern for the bond market."
The minister said interest subsidies to debt-hit farmers would be extended, one of several measures showing the government was focusing on rural voters before the election.
Mukherjee said that the government needed to accelerate policy reforms, including in the financial sector, and that social security nets needed to be strengthened.
Defence spending would rise 24 percent in 2009/10, compared to an increase of 10 percent in 2008/09.
"We are going through tough times. The Mumbai terror attacks have given an entirely new dimension to cross-border terrorism. A threshold has been crossed, our security environment has deteriorated considerably," Mukherjee said.
S&P REVIEW
Standard and Poor's plans to review India's domestic debt rating after Monday's budget.
"The federal debt as a percentage of GDP and the rising fiscal deficit are two significant factors which are constraining ratings and that is something which also may pull them lower," Takahira Ogawa, a credit analyst at Standard & Poor's, said.
Faced with faltering growth, the government has already announced two stimulus packages, including extra spending of $4 billion, while for its part the central bank has cut its key lending rate by 350 basis points since October to 5.50 percent.
The government has also unveiled plans to borrow 460 billion rupees ($9.5 billion) by the end of the fiscal year in March to fund its stimulus measures and meet extra spending needs.
The government estimates that growth in Asia's third-largest economy will slip this fiscal year to a six-year low of 7.1 percent from 9 percent or more in the past three years.
The prime minister's economic advisory council expects growth to hold around similar levels in 2009/10, although private economists see that as too optimistic.
Data has shown the global slowdown is hurting key sectors including exports, housing and manufacturing. Analysts say growth under 6 percent is perceived as a recession by many Indians, with investments curtailed and jobs losts.
Already, 500,000 workers are thought to have lost their jobs in the December quarter, while an export lobby group projected the figure to climb to 10 million in the year to March-end.
In its five budgets since 2004, the Congress party-led coalition has raised spending on health, education and rural employment but analysts say the economy has suffered due to a lack of economic reforms. ($1 = 49 rupees) (Additional reporting by Rajkumar Ray and Manoj Kumar; Writing by Alistair Scrutton; Editing by Simon Denyer & Jan Dahinten)