Whalesbook
The Core Issue
India is navigating one of its most challenging external trade environments in decades. Traditional globalization engines are weakening, trade rules are fragmenting, and geopolitics is increasingly shaping economic power. The focus for India is now on protecting existing trade and building resilience to compete globally.
Merchandise exports are projected to remain flat in FY26, around $438 billion, due to weak global demand and US tariffs. Services exports may cross $400 billion, bringing total exports to approximately $850 billion. This falls significantly short of the $1 trillion target, which appears unrealistic in the current protectionist climate.
External Pressures Mount
The United States, India's largest export market, presents the biggest risk. A significant 50% reciprocal tariff has made Indian exports heavily taxed. Between May and November 2025, exports to the US dropped by 21%, severely impacting labour-intensive sectors such as apparel, gems and jewellery, and seafood.
Exporters have shown adaptability, partially recovering shipments by understanding US tariff rules. When using US-origin inputs, tariffs apply only to the value added in India, not the full shipment value. This insight has helped sectors like jewellery, made with US-sourced gold, to rebound.
Meanwhile, Europe is introducing green barriers. Starting January 2026, the EU's Carbon Border Adjustment Mechanism (CBAM) will impose carbon costs on steel and aluminium. New EU deforestation rules also pose a threat to agriculture-linked exports. Mexico plans to impose tariffs up to 50% on imports from non-FTA partners, affecting sectors like autos and steel.
The China Challenge
India faces a substantial trade deficit with China, exceeding $100 billion. Exports to China have declined, while imports have surged, driven by China's dominance in electronics, machinery, and critical minerals. India must build its domestic capacity to effectively compete in these sectors.
Diversification and Adaptation
Encouragingly, exporters are diversifying markets. From May to November 2025, exports to markets outside the US grew by 5.5%, demonstrating a reduced dependence on a single market. Free Trade Agreements (FTAs) are a key policy tool, with India finalizing several and pursuing more with major economies.
The Path Forward: Domestic Capacity and Competitiveness
Realizing the benefits of FTAs requires strong domestic production. India needs to foster deep manufacturing capacity in key sectors like electronics and machinery, coupled with advancements in design and process innovation. Reducing logistics costs and streamlining customs clearance are also critical.
Compliance costs, particularly for MSMEs, are rising due to new international regulations. Smaller exporters risk being pushed out without clearer rules and targeted support. Reviving export incentives and seeking relief from punitive US tariffs are essential steps. Ultimately, India's global competitiveness hinges on strengthening domestic capabilities.
Impact
This news significantly impacts Indian businesses, especially exporters and MSMEs facing increased costs and reduced market access. Potential headwinds for export growth could affect foreign exchange reserves and overall economic expansion. Companies must adapt strategies by diversifying markets, investing in domestic capabilities, and navigating complex international regulations.
Impact Rating: 7/10
Difficult Terms Explained
- Globalization: The process of interaction and integration among people, companies, and governments worldwide.
- Reciprocal Tariff: A tariff imposed by one country on goods from another country in response to tariffs imposed by that other country on its own goods.
- Carbon Border Adjustment Mechanism (CBAM): An EU policy designed to put a carbon price on imports of certain goods into the EU to help meet its climate goals.
- Free Trade Agreement (FTA): A pact between two or more nations to reduce barriers to imports and exports among them.
- MSMEs (Micro, Small and Medium Enterprises): Small and medium-sized businesses that are crucial for economic growth and employment but often face resource constraints.
- Trade Deficit: Occurs when a country's imports exceed its exports.