A Goldilocks 2026: Can reforms sustain the growth-benign inflation mix?

India may see a goldilocks 2026 with strong growth and low inflation, but sustaining this balance will hinge on reforms, RBI policy support, fiscal consolidation and easing external pressures

The year 2025 has been a challenging one for India. Real gross domestic product (GDP) growth was above expectations and the inflation rate was below the target. But beneath the surface, there was more turbulence. At 50 per cent, India was singled out for American tariffs, domestic consumption softened, slowing nominal GDP growth weighed on revenues, large outflows in foreign-portfolio equity and a delay in the United States (US) trade deal have sustained the currency weakness, and the AI (artificial intelligence) exuberance has bypassed India. All considered, the economy has navigated this turbulence well, due to prudent macro policy choices, and the outlook for 2026 depends on five key questions.

 

Is improvement in cyclical growth likely?

 

Growth is important not only in itself but also because of its spillover effects on fiscal finances and in attracting more capital inflows. After a challenging 2025, we expect India’s cyclical growth to improve in 2026, supported by multiple factors.

Globally, we expect the AI-led investment boom and more supportive monetary and fiscal policies to set the stage for a strong 2026, led by the US and Europe. Domestically, low inflation is likely to remain a tailwind, boosting household real disposable incomes and supporting both consumption demand and corporate profitability. Unlike last year, when tight macro policies were a restraint on growth, the lagged effects of prior policy easing — repo rate cuts, liquidity, and credit easing — should boost growth. A likely trade deal with the US that lowers tariffs on Indian exports from 50 per cent to 20 per cent will also be a positive.

The government this year announced rationalisation in goods and services tax (GST) and labour-market reforms. More reforms are likely, focusing on improving the ease of doing business, further liberalisation in foreign direct investment, privatisation, deregulation, and factor-market reforms. India’s share in global smartphone export continues to rise, and a broadening of the production-linked incentive scheme to other low-tech manufacturing sectors like toys, furniture, and footwear should be the next step.

 

Overall, we forecast real GDP growth at around 7 per cent year-on-year (Y-o-Y) in 2026, with likely improvement in urban discretionary demand and real estate investment.

 

Is the disinflation just cyclical or also structural?

 

It is a bit of both. Cyclically, the benign inflation rate reflects positive supply shocks in food, low commodity costs, moderating wage growth, and the transmission of GST cuts to prices.

 

But the inflation decline is also structural. Our analysis shows that the trend in the consumer price index has moderated from around 6 per cent in 2022 to 3.4 per cent in November 2025. This is due to a lower food-inflation rate and a sharp moderation in the super core inflation trend from 5.0-5.5 per cent over the last decade to 3.2 per cent now. Ongoing efficiency and productivity gains from infrastructure investment, increased digital transactions, the anchoring of inflation expectations, proactive supply-side food management, and increased competition from Chinese imports have all contributed to this trend.

 

Unlike food and fuel, where there is a risk of a trend reversal, the drop in the super core trend should be more sustainable. We expect the inflation rate to average 3.6 per cent in 2026, up from 2.2 per cent in 2025, marking two consecutive years below the Reserve Bank of India’s (RBI’s) 4 per cent target.

 

Is the RBI’s ratecutting cycle over?

 

Fundamentally, low inflation will likely persist longer, a weak currency is not a threat to the inflation mandate, real rates remain elevated, and there is still some economic slack. So, there is scope for some further easing, but having cut the repo rate by 125 basis points this year, the RBI has the flexibility to go slow from here. The terminal repo rate is likely to settle lower than the current 5.25 per cent, and a low-rate regime appears sustainable. Transmission will need a greater push as forex intervention and a higher currency leakage drain liquidity in the banking system, so more open-market bond purchases will be necessary. Finally, the flexible inflation-targeting framework is up for review after March 2026, and a renewal of the existing framework would be seen as positive.

 

When will external pressures ease?

 

A negative balance of payments has been a pressure point this year, especially since September. With exports hit by tariffs, sticky imports, and large portfolio equity outflows, funding the current-account deficit has been challenging. With a US trade deal still elusive, these pressures may sustain in the very near term.

 

However, the external sector looks fundamentally healthy, and currency concerns should be a passing phase. The rupee has depreciated on a real effective exchange rate, which should help stabilise the current account by restraining imports and boosting exports. A weak currency also tends to attract more remittances. Export of services remains on a structural uptrend. On the capital account, improved domestic growth should attract portfolio equity inflows, and India’s entry into the Bloomberg Global Aggregate Index could also lead to large bond inflows next year. Expectations of a trade deal are low, so any announcement would be a positive surprise.

 

Is the best phase of fiscal consolidation behind us?

 

Our estimates show a potential revenue shortfall of around ₹1.3 trillion in FY26, but this is likely to be covered by expenditure compression in H2FY26, since the government remains committed to its fiscal-deficit target of 4.4 per cent of GDP in FY26.

Starting in FY27, the central government will transition from setting fiscal-deficit targets to a debt-targeting framework, with the aim to lower central-government debt from around 56 per cent of GDP in FY26 to about 50 per cent (plus or minus 1 per cent) by FY31. The absence of a deficit target has increased uncertainty, as investors have become accustomed to the fiscal deficit being an anchor, whereas debt-to-GDP is not entirely in the government’s control. While the government can lower the primary deficit, debt sustainability also depends on the extent to which nominal GDP growth exceeds the nominal interest rate. We believe the government will persist with fiscal consolidation during this transition, albeit perhaps more gradually.

 

Wrapping up

 

Overall, 2025 has been a challenging year for India, but the economy has managed to absorb these shocks well, via a focus on boosting domestic demand and a push towards diversifying exports. As past policy easing boosts cyclical demand and structural reforms boost productivity and investment, the Goldilocks mix of solid growth and benign inflation can sustain in 2026.

 

The author is chief economist (India and Asia ex-Japan), Nomura