Whalesbook
War Disrupts India's Economic Calm
The economic situation has shifted dramatically in recent weeks. Chief Economic Advisor V Anantha Nageswaran highlighted the West Asia war's potential impact on growth, inflation, government finances, and trade. The war could affect India through four main routes: disrupting oil, gas, and fertilizer supplies; increasing import costs; raising shipping expenses; and lowering money sent home by workers in Gulf countries.
This geopolitical shock arrives as Reserve Bank of India Governor Sanjay Malhotra faces a critical juncture. Until recently, India enjoyed a "goldilocks period" of low inflation at 2.2% and robust GDP growth of 8% in the first half of FY25, allowing for comfortable liquidity and moderate lending rates.
Rupee Drops Sharply, RBI Intervenes
The impact on the currency has been immediate. The rupee depreciated by over 4% in March, hitting an all-time low of 94.85 against the dollar on Friday, despite intermittent intervention by the central bank. Foreign currency assets, a key part of its foreign exchange reserves, have dropped by $16 billion since February 27.
The central bank has been actively intervening in both spot and forward markets. A new directive capping the net open position in rupee transactions at $100 million aims to force banks to unwind large dollar positions, providing short-term support. However, analysts caution that escalating conflicts could still push the dollar higher.
Geopolitical Risks Strain Payments Balance
Pressures on the country's overall balance of payments are expected to increase. The deficit stood at $30.8 billion for April-December, with the current account deficit at 1.1% of GDP. Gaura Sen Gupta, chief economist at IDFC Bank, noted that rising geopolitical risks have kept the balance of payments in deficit during the fourth quarter of fiscal year 2026. This is partly due to more money leaving the country through foreign portfolio investments.
RBI's Policy Balancing Act
Unlike the 2022 scenario following the Ukraine war, where the policy repo rate was lower at 4%, the current rate of 5.25% offers the Monetary Policy Committee some room to assess the war's fallout. Madan Sabnavis, chief economist at Bank of Baroda, suggested that rate cuts are unlikely for now, with inflation and potential El Nino effects taking precedence. Nageswaran added that if demand cools, it could ease the dilemma, allowing the RBI to view inflation mainly as a temporary supply issue. Otherwise, the central bank might need to tackle the wider impact of higher import costs.