Navigating the tariff shock: India's balancing act on global trade

It is now clear that American President Donald Trump is determined to upend the global trade order. However, the shape of the new order remains unclear. The eventual outcome will likely be significantly different from what Mr Trump or his close associates have in mind. Nevertheless, the interim chaos will have consequences and worsen the economic outlook. The layers and contradictions in what Mr Trump intends to do — or is doing — are difficult to capture in a single piece. This column  looks at where India stands and its possible options. 

There is relief that the so-called reciprocal tariffs have been put on hold for 90 days, though the base tariff of 10 per cent remains. Also, China is not part of this 90-day pause, and the prohibitive tariffs imposed on it and its retaliatory actions will have their own consequences, as demonstrated by the restrictions on rare earth mineral exports. India is said to be in a better position because it started the discussion on a bilateral trade agreement much before the reciprocal tariffs were introduced. Hopefully, India and the US will reach a mutually beneficial deal in time. 

However, it is important to be cautious for at least two reasons. First, although India needs to reduce tariffs in its own interest, it may not be enough. The offer by Vietnam and others, for instance, to reduce duties to zero on US imports did not cut much ice. For Mr Trump, a trade deficit with any country signifies unfairness and should be reduced to zero, if not turned into a surplus in favour of the US. It will thus be difficult to negotiate a deal. India may be asked for concessions it may not be prepared to make — for perfectly legitimate reasons. 

Second, given the abrupt changes in the US administration’s position and a complete lack of economic reasoning, how long a deal lasts will remain uncertain. Other countries and regions will face similar problems. A country generating a surplus after an agreement with the US may be hit again. Thus, determining what will happen in July or beyond is virtually impossible at this stage. 

Since the US has decided to shut itself off from the world, there is talk of a new order without it. While India should remain alert to all possibilities — including joining the Comprehensive and Progressive Agreement for Trans-Pacific Partnership — and must conclude its free trade negotiations with the United Kingdom and the European Union, becoming part of an alternative global trading arrangement will not be easy. India also faces the China challenge. The trade deficit with China was over $99 billion in 2024-25. As has been argued by many commentators, with export opportunities declining substantially, China will want to push its products elsewhere, including to India. Policymakers in India will need to be watchful. Opening up to the rest of the world, including the US, and containing imports from China will require tough balancing. 

Further, the impact of Mr Trump’s tricks will not be limited to trade. It is now well accepted that selling pressure in the US government debt market prompted him to go slow on his plans, but it also highlighted the extent of uncertainty faced by the financial markets. Sustained pressure in the US debt market, which is considered the safest and influences the value of financial assets across the world, could further increase volatility in global markets. The decline in the US-India yield difference could trigger outflows and put pressure on the rupee. Irrespective of Mr Trump’s view on India, the fact is — like the US —India runs a current account deficit (CAD), which means it imports more than it exports and depends on foreign savings. Even though the CAD is expected to be around 1 per cent of gross domestic product in the current year, which can be considered moderate, financing could become an issue because foreign investors would be restrained from committing capital in this uncertain environment. Higher tariffs in the US could also push up inflation, which could not only delay the possible interest rate cuts but also potentially force the Federal Reserve to increase rates.  

Since markets don’t seem prepared for such an outcome, volatility can increase substantially. In the given conditions, the Reserve Bank of India (RBI) will need to let the rupee depreciate even if the pace is not to its liking.  A weaker rupee will work as an automatic stabiliser and help negate some impact of higher tariffs. The monetary policy committee (MPC) of the RBI has reduced the policy repo rate by 50 basis points in this cycle and has changed its stance to accommodative from neutral. This has led some analysts to believe that the MPC would go for deeper rate cuts with increasing risk to the growth outlook. A lower inflation reading might reinforce this view. However, financial markets may have to adjust expectations. The MPC will need to account for the impact of potential currency depreciation on inflation and financial stability. Excessive policy accommodation to support growth in the present conditions can have unintended consequences. 

Similarly, the government would do well to stay on the fiscal consolidation path. The level of public debt and deficit will not allow it to support growth in any meaningful manner. The shift in US policies will significantly impact global trade and growth, with consequent effects on India’s exports and overall growth. Although the extent of possible damage is difficult to quantify at this stage and will play out over the coming quarters, the more immediate impact will be on capital flows and financial markets. Thus, it will be vital to avoid any policy adventurism. The focus in the short run should be on minimising the damage. This is a deliberate, man-made crisis. Hopefully, better sense will prevail soon, and the world will avoid a disaster in the making.