Lingering geopolitical tensions may hit loan portfolios: RBI report

RBI warned that the West Asia conflict, rising energy prices and monsoon risks could weigh on India's growth and inflation outlook in the short term

The ongoing West Asia conflict poses risks to domestic growth and inflation, albeit in the short run, even as the economy is expected to be resilient in 2026-27 (FY27), the Reserve Bank of India (RBI) said in its annual report released on Friday. 

“Even if the Indian banking system is expected to remain resilient, lingering geopolitical tensions and supply-chain disruptions may pose near-term risks to corporate earnings and the performance of loan portfolios,” the central bank’s annual report noted. 

“Going forward, India’s growth outlook remains positive, though the West Asia conflict and the attendant risks of elevated energy prices, supply chain disruptions, financial market volatility, uncertainty surrounding global trade policies and weather-related disruptions could pose headwinds to growth and inflation in the short run,” the RBI said. 

 

Elevated sovereign yields may also exert pressure on financial institutions’ investment portfolios. “Domestic bond yields could face upward pressure if the global monetary easing cycle stalls or reverses in response to persistent oil price shocks amid fragile conditions in the Middle East (West Asia),” it said. “However, the government’s commitment to fiscal consolidation, along with the liquidity injection measures by the Reserve Bank, is expected to contain the upward pressure on yields,” the RBI added. 

In such uncertain times, continuous assessment of the evolving developments is warranted to frame the appropriate policy response on an ongoing basis, the bank emphasised. “Looking ahead, the challenges on account of uncertainties emanating from prolonged geopolitical conflicts, rising energy prices, input costs, currency fluctuations, evolving trade policies and weather conditions — especially possibility of El Niño and below normal monsoon — warrant continuous vigil and careful monitoring of the evolving dynamics.” 

The six-member rate setting panel of the central bank which met in April in the backdrop of the West Asia War, had decided to keep interest rates unchanged. The next review of the monetary policy is scheduled next week. The Indian economy exhibited resilience in 2025-26, amidst several external headwinds, and the growth outlook remains positive, going forward, the annual report said. 

Noting that headline inflation remained benign during 2025-26, price pressures started to emerge towards the end of the financial year following the outbreak of the West Asia conflict, which along with a below normal monsoon forecast needs close monitoring on the inflation front. 

On the positive side, healthy corporate and bank balance sheets, the government’s continued thrust on capital expenditure and the implementation of trade agreements with the key partners are expected to sustain investment and growth momentum, the report said. 

Despite challenges emanating from the external sector due to elevated energy and commodity prices, the domestic economy is expected to remain resilient in FY27, the report said. Growth prospects are supported by India’s strong macroeconomic fundamentals, including robust domestic demand, relatively lower dependence on exports as a growth driver, and a stable policy environment. 

The report noted that the Indian banking system is expected to remain resilient, supported by prudent regulatory reforms, stable credit growth and adequate capital buffers. “On balance, supported by sound fundamentals and healthy balance sheets, the domestic financial system has sufficient buffers to withstand adverse shocks,” it said. 

Commenting on the agricultural sector, the report said the monsoon remains critical for Indian agriculture and the outlook for 2026-27 remains contingent upon the progress and distribution of the south-west monsoon. 

On the external sector, the report said the ongoing geopolitical conflicts and policy uncertainty pose downside risks to India’s merchandise exports, implementation of trade agreements with several trade partners and a sharp focus on scaling domestic manufacturing in strategic and frontier sectors would strengthen export competitiveness and reduce critical import dependence. 

“Robust outlook for India’s services trade balance, in particular software and business services, and inward remittances from non-Gulf countries is expected to support the current account balance during 2026-27,” it added. 

From the annual report

• Price pressures to emerge towards end-FY27
• Domestic financial system has sufficient buffers to withstand adverse shocks
• Elevated sovereign yields may exert pressure on financial institutions’ investment portfolios
• The outlook for agriculture in FY27 remains contingent upon the progress of monsoon