Navigating a Fractured World, How India’s Trade Triumphs Must Now Fuel Fiscal Discipline and Structural Reform

In an era defined by geopolitical volatility, unilateral tariff shocks, and a rewiring of global supply chains, India has demonstrated a remarkable capacity for economic resilience and strategic agility. The tumultuous events of 2025, marked by former US President Donald Trump’s abrupt imposition of 50% tariffs, could have precipitated a severe crisis. Instead, India’s economy is projected to exceed 7% GDP growth for the year, buoyed by a combination of shrewd policy maneuvers and favorable external factors. However, this hard-won stability and the recent diplomatic bonanza of two landmark trade deals—with the European Union and a subsequent, unexpected pact with the United States—are not endpoints. They are the prologue to a more challenging domestic phase. As India stands on the cusp of a potential export and investment-led boom, it is confronted by an urgent imperative: to accelerate fiscal consolidation and deepen long-pending structural reforms. The nation’s ability to harness the opportunities of this new trade landscape while fortifying its macroeconomic foundations will determine whether it can truly transition toward its Viksit Bharat (Developed India) ambition or remain vulnerable to the next global shock.

The 2025 Resilience: Anatomy of a Navigated Crisis

India’s performance in 2025 defied the gloomy forecasts that typically follow major protectionist shocks. A multi-pronged cushion absorbed the impact of Trump’s tariffs:

Export Front-loading and Diversification: Anticipating the tariff walls, Indian exporters rushed to ship goods to the US before the full brunt of the duties hit, providing a temporary earnings buffer. Concurrently, decades of efforts to diversify export markets and baskets paid off.
The Strategic Oil Cushion: Continued access to discounted Russian oil, despite Western pressure, acted as a massive subsidy for the economy, keeping the import bill and domestic inflation in check, thereby preserving household consumption and industrial margins.
The Unstoppable Services Engine: India’s crown jewel—its services exports, especially in IT and business process management—continued their stellar run. The global AI investment boom further fueled demand for Indian tech talent and solutions, creating a robust counterbalance to goods trade pressures.
Diaspora Dollars: Remittances from the Indian diaspora, a perennial source of strength, remained robust, providing vital foreign exchange and supporting domestic demand.
The Competitive Devaluation: While net foreign portfolio outflows reached a staggering $18 billion, causing the rupee to depreciate sharply past 92 to the dollar, this currency weakness inadvertently enhanced the price competitiveness of India’s merchandise exports in other markets.

Globally, the avoidance of a full-blown trade war, as most nations chose not to retaliate against US tariffs, and the AI-driven investment surge provided a more favorable environment than anticipated. Yet, the shadow of uncertainty, driven by Trump’s erratic foreign policy threats, kept risk premiums high globally, a reminder of the fragile context of India’s achievements.

The Trade Deal Bonanza: A Strategic Masterstroke

Against this backdrop, India’s trade diplomacy in late 2025 and early 2026 has been nothing short of transformative. The rapid negotiation and conclusion of a comprehensive trade deal with the European Union (EU) was the first masterstroke. This agreement, finalized in record time, signaled a decisive shift in India’s trade policy from defensiveness to confident engagement. It promised immediate benefits: a boost for labor-intensive export sectors like textiles, leather, and agro-processed goods through lower EU tariffs, and a long-term pipeline of Foreign Direct Investment (FDI) as European firms gain confidence in integrated supply chains with India.

More strategically, the EU deal served as a powerful geopolitical signal. It demonstrated to the United States that India possessed attractive alternative partnerships and would not be coerced. This calculus appears to have been instrumental in triggering a dramatic reversal from the Trump administration. The subsequent US-India trade deal, which slashed tariffs from the punitive 50% down to a preferential 18%—a rate lower than those faced by competitors like Bangladesh and Vietnam—was a diplomatic and economic coup. It not only restored access to the world’s largest consumer market but also repositioned India favorably within the “China+1” strategies of multinational corporations, a strategy that the earlier tariffs had severely derailed.

The combined effect of these deals is profound. They promise to:

Re-ignite Export-Led Growth: By securing preferential access to two of the world’s three largest economic blocs.
Attract Efficiency-Seeking FDI: Companies will now have a stronger incentive to establish manufacturing bases in India to serve both Western markets.
Improve Sentiment: The positive momentum has already begun pulling back portfolio capital, strengthening the rupee and equity markets.

The Looming Domestic Imperative: Fiscal Consolidation and the Reform Debt

However, this external triumph casts a harsh light on persistent internal vulnerabilities. The author rightly sounds the alarm on India’s precarious fiscal position. The public-sector borrowing requirement (PSBR) for the coming year is at a historic high of ₹17.2 trillion (approx. $190 billion), a 16% increase from the previous year. This colossal government demand for capital crowds out private investment, keeps borrowing costs high, and severely limits the Reserve Bank of India’s (RBI) room to maneuver. As the government’s debt manager, the RBI faces the near-impossible task of keeping sovereign bond (G-Sec) yields low to support growth while adhering to its inflation-targeting mandate amidst such massive borrowing.

The 2026-27 Budget made some commendable gestures—continuing public capital expenditure to crowd-in private investment, reducing import duties on critical inputs, and allocating funds for AI and semiconductor missions. Yet, these are insufficient to address the core fragility. As the author warns, with public debt ratios exceedingly high, India has “limited fiscal space to respond” to a future shock, such as a major correction in US equity markets. In today’s uncertain world, running persistent, elevated deficits is not a sound strategy for an aspiring major power.

The trade deals, therefore, must act as a catalyst for two parallel domestic missions:

1. Faster and Credible Fiscal Consolidation:
The government must articulate and adhere to a clear, time-bound roadmap to reduce the fiscal deficit and the overall debt-to-GDP ratio. This requires:

Rationalizing Subsidies: Moving toward more targeted, direct benefit transfers to reduce leakages.
Boosting Non-Tax Revenues: Aggressively pursuing divestment of non-strategic public sector undertakings and unlocking value from public assets.
Enhancing Tax Efficiency: Broadening the GST base and improving compliance to boost revenues without raising rates. The post-2025 “cleaning up” of GST must be accelerated.
Reprioritizing Expenditure: Ensuring that capital expenditure, which has a higher multiplier effect, is protected even as less productive revenue expenditure is trimmed.

2. Completing the “Factor Market” Reforms:
The “Reform Express” referenced by the author cannot stall. The trade deals will only yield their full potential if India’s domestic business environment is globally competitive. This demands tackling the thorniest reforms:

Land: Streamlining acquisition processes and rationalizing zoning laws to make land available for industry and infrastructure at reasonable cost and time.
Labor: Building on the recent codification by increasing flexibility for firms, especially those employing over 300 workers, to adjust to market cycles while strengthening social security nets.
Energy & Logistics: Reducing the cost and improving the reliability of power and fuel, while massively upgrading port, rail, and road connectivity to match export ambitions.
Legal and Administrative Systems: Fixing the “creaky and highly corrupt” legal system is paramount. Faster contract enforcement, dispute resolution, and transparent regulation are non-negotiable for attracting long-term, patient FDI.

Sectoral Crosscurrents: Defence, AI, and Banking

The analysis also highlights critical sectoral nuances:

Defence: In a more dangerous world, India’s defence expenditure at under 2% of GDP is worryingly low. Building a robust, self-reliant defence industrial complex requires not just higher outlays but also the implementation of the 100% FDI opening announced in 2025 and deeper integration with the private sector.
AI – Boon or Bane?: India stands at a crossroads with AI. It can be a boon, creating new service exports and solving domestic challenges, or a bane, if it leads to premature de-industrialization and job displacement. The targeted budgetary support for the AI Mission must focus on innovation, skilling, and developing ethical frameworks.
Banking Reforms: The Budget’s commitment to look at raising the credit-to-GDP ratio, phasing out the statutory liquidity ratio (SLR), and developing the corporate bond market is welcome. However, as noted, the success of these financial sector reforms is entirely contingent on reducing the government’s borrowing dominance. Deep, liquid bond markets cannot co-exist with a state that pre-empts a large share of household financial savings.

Conclusion: From Navigating Storms to Building a Seaworthy Ship

The Modi government deserves credit for its nimble navigation through the turbulent waters of 2025 and for securing trade agreements that could be genuine game-changers. These deals have opened a window of opportunity to structurally elevate India’s growth trajectory. However, external trade liberalization cannot compensate for internal macroeconomic imbalances and regulatory bottlenecks.

The lesson from 2025 is not just that India is resilient, but that its resilience was tested by avoiding the worst of the shock through temporary buffers and strategic deals. The foundation of that resilience now needs reinforcement. The path to a Viksit Bharat runs through New Delhi’s commitment to fiscal discipline and through state capitals’ willingness to implement factor market reforms. The world has offered India a seat at the high table of trade; India must now ensure its own economic house is built on the solid rock of sustainability, not the shifting sands of deficit finance. The ratification of the EU deal and the durability of the US agreement are crucial, but the most critical pact India needs now is a domestic one—a national consensus on prudence, productivity, and reform.

Q&A Section

Q1: What were the key factors that allowed India to weather the 2025 Trump tariff shock better than expected?
A1: India’s resilience was multi-faceted: (1) Pre-emptive Action: Exporters front-loaded shipments to the US before tariffs hit. (2) Strategic Commodity Management: Continued imports of cheap Russian oil kept the import bill and inflationary pressures low. (3) Strengths in Services: Robust growth in IT and business service exports, partly fueled by the global AI boom, provided a large earnings buffer. (4) Stable Remittances: High inflows from the diaspora supported foreign exchange reserves and domestic consumption. (5) Currency Adjustment: The rupee’s depreciation, though driven by portfolio outflows, inadvertently made Indian goods more competitive in other markets.

Q2: How did the India-EU trade deal indirectly lead to the subsequent US-India trade agreement?
A2: The swiftly negotiated EU deal served as a powerful strategic signal. It demonstrated to the United States that India had a credible, attractive alternative economic partnership and was not solely dependent on the US market. This reduced America’s leverage and changed the cost-benefit analysis for the Trump administration. Fearing that India would align its standards and regulations with the EU, locking in advantages for European firms, the US moved quickly to secure its own deal, resulting in the dramatic tariff reduction from 50% to 18%.

Q3: Why does the author argue that India’s record-high public-sector borrowing is a critical vulnerability despite the positive trade news?
A3: The massive public-sector borrowing requirement (₹17.2 trillion) creates several dangers: (1) It crowds out private investment by absorbing a large share of available capital, keeping borrowing costs high for businesses. (2) It ties the hands of the RBI, making it difficult to manage sovereign bond yields and control inflation simultaneously. (3) It leaves no fiscal ammunition for responding to future economic shocks. In a volatile global environment, high public debt severely limits the government’s ability to stimulate the economy if needed, making growth vulnerable.

Q4: What are the “factor market” reforms mentioned, and why are they essential to capitalize on the new trade deals?
A4: “Factor market” reforms refer to changes in the markets for core inputs of production: land, labor, capital, and energy/logistics. They include:

Land: Simplifying acquisition and zoning to reduce cost and delay.
Labor: Increasing flexibility in hiring and firing for larger firms while strengthening social security.
Capital: Deepening financial markets (as hinted in banking reforms).
Energy/Logistics: Ensuring affordable, reliable power and efficient transport networks.
These reforms are essential because trade deals only provide market access. To actually capture that market share, Indian firms must be cost-competitive and reliable. Inefficient factor markets raise production costs and reduce responsiveness, nullifying the advantages granted by lower tariffs in the EU and US.

Q5: In the context of the column, is Artificial Intelligence (AI) seen more as an opportunity or a threat to India’s economic trajectory?
A5: The column presents AI as a potential both a “big boon or bane.” The opportunity lies in creating new, high-value service exports (akin to the IT boom), driving productivity across sectors, and solving domestic challenges in healthcare, agriculture, and governance. The threat (bane) is that rapid automation could disrupt manufacturing and service jobs faster than new ones are created, potentially derailing employment growth. The author welcomes the budgetary support for the AI National Mission, implying that with targeted policy—focusing on innovation, skilling, and infrastructure—India can steer toward maximizing the boon and mitigating the bane.

Navigating a Fractured World, How India’s Trade Triumphs Must Now Fuel Fiscal Discipline and Structural Reform