The End of India’s Goldilocks Moment, How the West Asia Crisis Is Reshaping Macroeconomic Stability
Until a few months ago, the Indian economy was in a so-called Goldilocks situation—neither too hot nor too cold, but just right. GDP growth was estimated at a healthy 7.6 per cent in 2025-26. Inflation was benign, averaging around 2 per cent. The current account deficit was roughly 1 per cent of GDP. The central government was firmly on a fiscal consolidation path. Interest rates had been cut, consumer sentiment was strong, and the services sector was booming. It was, by any measure, an enviable macroeconomic picture. Then came the West Asia crisis. The US-Israel strikes on Iran on February 28, 2026, Iran’s retaliatory closure of the Strait of Hormuz, and the subsequent disruption of global energy supply chains have flipped the situation for the Indian economy. Given India’s high energy import dependence—88 per cent of its oil requirement, with 51 per cent coming from West Asia—the economy is being impacted through multiple channels: growth, inflation, the balance of payments, government finances, and the currency. The Goldilocks moment is over. The macro situation will worsen before it improves.
Growth: From 7.6 per cent to 6.7 per cent
With global crude oil prices likely to remain elevated at around $85-90 per barrel in 2026-27 due to supply damage and lingering uncertainty, India’s GDP growth is expected to slip to around 6.7 per cent this year, compared to pre-conflict projections of 7.2 per cent. The 0.5 percentage point downgrade may not seem catastrophic, but it translates into billions of dollars of lost output, millions of jobs not created, and a slower recovery from the pandemic-induced slowdown.
The channels of transmission are multiple. Higher energy prices increase input costs for every sector—manufacturing, transport, agriculture, services. Firms face a choice: absorb the cost and see margins compress, or pass it on and see demand fall. Either way, growth slows. Moreover, the disruption of energy supply chains has created shortages of key petrochemical inputs, affecting plastics, synthetic textiles, packaging, chemicals, and pharmaceuticals. Production cuts of up to 40 per cent have been reported in some textile segments.
There are downside risks beyond the crisis. There are also chances of El Niño, and a weaker monsoon could hurt the domestic demand outlook. A poor monsoon would reduce agricultural output, raise food prices, and hit rural incomes—all of which would further depress growth.
Inflation: Shielded, but Not for Long
Even while crude oil prices have risen by 40 per cent since the beginning of the conflict, households have been shielded from any rise in the retail prices of petrol and diesel. The government cut excise duty on petrol and diesel to cushion the impact of higher crude prices. However, with global prices likely to remain elevated, there will be some pass-through to consumers. The government cannot absorb the entire shock indefinitely; the fiscal cost is too high.
There will also be a second-round impact on inflation through higher raw material prices for many industries. Transport costs have risen, packaging costs have risen, and energy-intensive industries like cement and steel are facing higher input prices. These costs will eventually feed into consumer prices.
CPI inflation is likely to average 4.6 per cent this year, as against pre-conflict projections of 4.3 per cent. The 0.3 percentage point increase may seem modest, but it masks significant volatility. Food inflation, in particular, could spike if the monsoon is poor. And if the pass-through from global oil prices is larger than expected, headline inflation could exceed 5 per cent.
The article notes that the burden of high global oil prices is likely to be shared between the government, oil marketing companies (OMCs), and households. OMCs have been absorbing some of the increase, but their margins are under pressure. The government has cut excise duties, but that reduces revenue. Eventually, households will have to bear some of the burden. The question is how much and how quickly.
Balance of Payments: The Most Serious Concern
While the growth and inflation impacts are significant, the most serious concern is India’s balance of payments. The current account deficit (CAD) is set to widen sharply, and capital flows are drying up simultaneously—a dangerous combination.
With India importing 88 per cent of its oil requirement (51 per cent of it from West Asia), the surge in oil prices directly increases the import bill. At the same time, exports to West Asia (15 per cent of India’s goods exports) are being disrupted by the conflict. And remittances from the region (38 per cent of India’s total remittances) are under threat as migrant workers face job losses or salary cuts.
The article expects India’s CAD to widen to 2.1 per cent of GDP in 2026-27, as against pre-conflict projections of around 1 per cent. A doubling of the CAD in one year is a significant deterioration.
Worse, capital flows are also weakening. There were steep FPI outflows of $14 billion in March alone, taking total outflows in 2025-26 to $17 billion. In previous stress periods—the global financial crisis, the taper tantrum, the pandemic, the Russia-Ukraine conflict—pressure on the capital account was largely characterised by sharp FPI outflows, while FDI inflows remained comparatively resilient. Unfortunately, this time, net FDI flows are also very weak.
India’s net FDI flows (gross investment less repatriation and outwards FDI) were at just $1.7 billion in April-January 2025-26, following a subdued inflow of $1 billion in 2024-25. While gross FDI inflows have been healthy, a sharp rise in repatriation of profits by foreign investors and high outward FDI by Indian investors have resulted in muted net FDI flows. Other components of the capital account, like external commercial borrowing, have also been weak.
This has resulted in the total capital account balance in the first three quarters of 2025-26 being close to zero, and is likely to take India’s balance of payments into negative territory. A negative BoP means that the country is spending more foreign exchange than it is earning—a situation that cannot be sustained indefinitely.
The Currency: Falling Reserves and a Weakening Rupee
The weakening BoP has implications for the Indian currency, which has already depreciated sharply over the past year. A weaker rupee makes imports more expensive, further fuelling inflation. It also increases the burden of foreign currency debt.
India has large foreign exchange reserves of around $700 billion. However, adjusting for gold holdings and Special Drawing Rights (SDRs), the usable reserves fall to about $570 billion. Further adjusting for the RBI’s forward position (commitments to sell dollars in the future), the number falls to just below $500 billion. So far, this is still comfortable, providing more than eight months of import cover. The international benchmark for comfort is three months. But reserves are being drawn down, and if the BoP remains negative, they will continue to fall.
The article does not predict a crisis, but it sounds a warning. If reserves fall below $400 billion, market confidence could be shaken. The RBI would then face a choice: allow the rupee to depreciate sharply (which would fuel inflation) or intervene heavily (which would deplete reserves further).
Fiscal Burden: Excise Cuts and Higher Subsidies
The West Asia crisis will also result in an increased fiscal burden. The cut in excise duty on petrol and diesel will result in a revenue loss for the Centre. Moreover, there will be upward pressure on the fertiliser subsidy given the sharp rise in LNG prices—natural gas is a key feedstock for nitrogenous fertilisers. There could also be some pressure on the government’s other tax revenues as the growth momentum slows.
The article estimates that the fiscal burden of the West Asia crisis on the Centre could be around 0.5 per cent of GDP. That may not sound like much, but in a year when the government is trying to consolidate its finances, an unexpected 0.5 per cent of GDP hit is significant.
The uncertain environment will also make it difficult for the Centre to meet its disinvestment target. When markets are volatile, privatisations and stake sales are postponed. All this could disturb the government’s fiscal consolidation path.
State governments’ finances were already under pressure, with rising expenditure towards election-related jobs and cash transfers. The crisis could put further strain on their finances. As the Centre and states struggle to meet their deficit targets, capital expenditure could come under pressure. Infrastructure projects may be delayed or cancelled. This would have long-term implications for growth.
The Silver Lining: Domestic Resilience
Not all is bleak. The article notes that the hit on GDP growth may not be very grave, as the economy continues to benefit from lower interest rates, cuts in GST, broad momentum in domestic demand, and healthy services exports. The Indian economy is more resilient than it was a decade ago. The banking system is healthier. The digital infrastructure is more robust. The policy response has been swift.
The government and the RBI have announced measures to shield the economy in the short run: excise duty cuts, export duty hikes to ensure domestic supply, and liquidity support for impacted sectors. More measures may follow if the crisis deepens.
The Long-Term Imperative: Energy Security
For the medium term, this crisis has highlighted the urgent need for India to strengthen its energy security. The events of the last few years—the Russia-Ukraine war, the West Asia crisis—have emphasised the need to build broader resilience to all kinds of global supply disruptions.
India needs to diversify its energy sources. It needs to increase domestic production of oil and gas (where feasible). It needs to accelerate the transition to renewables, electric vehicles, and green hydrogen. It needs to build strategic petroleum reserves. It needs to invest in energy efficiency. And it needs to ensure that capital flows are stable, which requires making the country an attractive investment destination.
The Goldilocks moment is over. But it can be regained. The crisis is a stress test—of India’s macroeconomic fundamentals, of its policy response, and of its long-term resilience. How India performs on this test will determine not just its growth in 2026-27, but its trajectory for the next decade.
Q&A: The Impact of the West Asia Crisis on India’s Economy
Q1: What was India’s “Goldilocks” macroeconomic situation before the West Asia crisis, and how has it changed?
A1: Before the crisis, India had a “Goldilocks” situation—neither too hot nor too cold, but just right. GDP growth was estimated at 7.6 per cent in 2025-26; inflation was benign, averaging around 2 per cent; the current account deficit was roughly 1 per cent of GDP; and the Centre was following fiscal consolidation. The crisis has flipped this situation. GDP growth is expected to slip to 6.7 per cent (from pre-conflict 7.2 per cent); CPI inflation is likely to average 4.6 per cent (from 4.3 per cent); the current account deficit is expected to widen to 2.1 per cent of GDP (from around 1 per cent); and the fiscal burden on the Centre could be around 0.5 per cent of GDP.
Q2: Why is the balance of payments the “most serious concern” according to the article?
A2: The balance of payments is the most serious concern because both the current account and capital account are deteriorating simultaneously. On the current account: India imports 88 per cent of its oil requirement (51 per cent from West Asia); exports to West Asia (15 per cent of goods exports) are disrupted; and remittances from the region (38 per cent of total remittances) are under threat. On the capital account: there were $14 billion in FPI outflows in March alone (total $17 billion in 2025-26); net FDI flows are very weak (just $1.7 billion in April-January 2025-26); and external commercial borrowing has also been weak. The total capital account balance in the first three quarters of 2025-26 is close to zero, likely taking India’s balance of payments into negative territory—meaning the country is spending more foreign exchange than it is earning.
Q3: How are India’s foreign exchange reserves positioned to handle the crisis, and what are the risks?
A3: India has large forex reserves of around $700 billion. However, adjusting for gold holdings and SDRs, usable reserves fall to about $570 billion. Further adjusting for the RBI’s forward position (commitments to sell dollars), the number falls to just below $500 billion. So far, this is still comfortable, providing more than eight months of import cover (the international benchmark is three months). However, reserves are being drawn down, and if the BoP remains negative, they will continue to fall. If reserves fall below $400 billion, market confidence could be shaken, forcing the RBI to choose between allowing sharp rupee depreciation (fueling inflation) or heavy intervention (depleting reserves further).
Q4: What is the fiscal burden of the crisis on the central and state governments?
A4: The fiscal burden on the Centre could be around 0.5 per cent of GDP. This comes from multiple sources: the cut in excise duty on petrol and diesel (revenue loss); upward pressure on the fertiliser subsidy (due to higher LNG prices); and slower growth momentum affecting other tax revenues. Disinvestment targets will also be difficult to meet in a volatile market. State governments’ finances were already under pressure from election-related spending. As both Centre and states struggle to meet deficit targets, capital expenditure could come under pressure—infrastructure projects may be delayed or cancelled, with long-term implications for growth.
Q5: What long-term measures does the article recommend to strengthen India’s energy security and economic resilience?
A5: The article recommends several measures:
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Diversify energy sources: Reduce over-reliance on West Asia (currently 51 per cent of oil imports).
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Increase domestic production of oil and gas where feasible.
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Accelerate the transition to renewables, electric vehicles, and green hydrogen.
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Build strategic petroleum reserves to buffer against supply disruptions.
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Invest in energy efficiency across sectors to reduce overall demand.
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Ensure capital flow stability by making India an attractive investment destination.
The article notes that the events of the last few years—the Russia-Ukraine war and the West Asia crisis—have emphasised the need to build broader resilience to all kinds of global supply disruptions. The Goldilocks moment is over, but it can be regained with the right policies. The crisis is a stress test of India’s macroeconomic fundamentals, policy response, and long-term resilience.
