India faces economic strain as Trump’s tariffs complicate recovery

Tuesday 18 February 2025 - 16:06

As Indian Prime Minister Narendra Modi prepared for his visit to the White House, U.S. President Donald Trump announced new reciprocal tariffs on key trading partners, adding pressure to India’s already struggling economy.

During a joint press conference, Trump revealed that India would purchase F-35 fighter jets and energy resources from the U.S. and that both nations would begin talks to address the U.S. trade deficit with India. However, these deals and potential trade concessions could strain India’s economy, which is experiencing slowed growth and weak domestic demand.

India’s economic expansion is projected at 6.4% for the fiscal year ending in March, marking its slowest pace in four years. To support middle-class households, the Modi administration recently introduced income tax relief measures. Additionally, the Reserve Bank of India cut its benchmark interest rate to 6.25%, its first reduction in nearly five years, aiming to stimulate growth amid challenging economic conditions.

Despite these efforts, experts warn that the tax breaks may have limited impact, as many lower-income Indians do not reach taxable income levels and continue to face post-pandemic financial hardships. According to economist Kaushik Basu from Cornell University, a significant number of urban workers, displaced by COVID-19 lockdowns, remain in rural areas performing seasonal agricultural labor due to a lack of stable urban jobs.

Economists like Dhiraj Nim from ANZ Bank estimate that the tax relief could boost GDP growth by only 0.2%, with most beneficiaries choosing to save or repay loans rather than increase spending. Meanwhile, Alexandra Hermann of Oxford Economics emphasizes that the government’s budget fails to address fundamental issues such as employment creation and workforce development, which are essential for sustained growth.

The slowdown also reflects a natural cooling after the sharp post-pandemic recovery, which initially positioned India on a strong growth trajectory. However, Kaushik Basu highlights that rising inequality is becoming increasingly visible, marking the most severe gap since India’s independence in 1947.

To drive recovery, the Indian government has invested in infrastructure projects but remains cautious about increasing spending due to its goal of reducing the fiscal deficit to 4.5% by next year. However, cuts in public expenditure may undermine the benefits of recent tax relief initiatives.

During his U.S. visit, Modi faced scrutiny over India’s protective tariffs on American goods. The two nations agreed to negotiate India’s trade surplus with the U.S., which may result in concessions that could impact domestic industries. For example, India has already reduced tariffs on Harley-Davidson motorcycles as a gesture of goodwill.

In a significant move, India also accepted the return of 100 deportees from the U.S., transported via military aircraft. Modi, however, framed the issue as a fight against human trafficking rather than a bilateral dispute.

Despite challenges, India’s economy remains driven primarily by domestic consumption, insulating it from some external shocks, according to Oxford Economics’ Hermann. However, deeper reforms are necessary to ensure more equitable and inclusive growth.

Kartik Muralidharan from the University of California at San Diego notes that expanded food subsidies have supported low-income populations, but broader economic reforms are needed to create more opportunities. He recalls how India’s 1991 economic reforms, spurred by a crisis, unlocked decades of growth and suggests that a similar reform wave is now essential.

Basu proposes higher taxes on the super-rich to support small businesses and urges the simplification of India’s Goods and Services Tax to reduce compliance burdens.

The Indian government projects 6.7% growth for the upcoming year, signaling optimism. However, ANZ’s Nim stresses that achieving higher per capita income and ensuring equitable distribution should be the government's top priorities.