US Tariffs Threaten India’s Economic Surge: Growth Slashed to 6.5% in FY26

The Indian economy, which posted an impressive 7.8 percent growth in the first quarter of fiscal year 2025-26 (FY26), is now projected to grow at a more modest 6.5 percent for the full year, according to the Asian Development Bank’s (ADB) Asian Development Outlook (ADO) report released on September 30, 2025. This marks a downward revision from the 7 percent forecast in April and aligns with July’s adjusted estimate, primarily due to the imposition of steep 50 percent US tariffs on Indian exports, which began in August. These tariffs, targeting key sectors like textiles, pharmaceuticals, and electronics, are expected to dampen growth, particularly in the second half of FY26 and into FY27, with net exports subtracting more from GDP than previously anticipated.

Despite the export challenges, India’s economic resilience is underpinned by strong domestic demand, which constitutes over 70 percent of GDP, and robust service exports, particularly in IT and business process outsourcing, which remain largely unaffected by tariffs. The ADB notes that India’s relatively low export-to-GDP ratio—around 20 percent—limits the overall impact, while efforts to redirect trade to markets like Europe, ASEAN, and the Middle East provide additional cushioning.

Fiscal and monetary policies are also playing a pivotal role. The government’s capital expenditure surged 32.8 percent in the first four months of FY26, driving infrastructure projects in roads, railways, and renewable energy. Meanwhile, the Reserve Bank of India (RBI) slashed the repo rate from 6.5 percent to 5.5 percent through cuts in February (25 basis points), April (25 basis points), and June (50 basis points) 2025, marking the lowest rate since August 2022, alongside a 100 basis-point reduction in the cash reserve ratio to boost liquidity.

Fiscal dynamics reveal both opportunities and pressures. The ADB projects a fiscal deficit of 4.5-4.6 percent of GDP, exceeding the budgeted 4.4 percent due to slower tax revenue growth following Goods and Services Tax (GST) cuts on essentials like healthcare and hospitality, not accounted for in initial estimates. However, this remains an improvement over FY25’s 4.7 percent deficit.

Central government revenue grew 4.8 percent, bolstered by a Rs 2.7 trillion dividend from the RBI, despite a 7.5 percent drop in direct tax collections. Expenditure rose 20.2 percent, with capital spending up 32.8 percent and current expenditure increasing 17.1 percent. Subsidy trends diverged: food subsidies fell 9.6 percent due to better harvests, but fertilizer subsidies spiked 36.9 percent amid global price hikes for di-ammonium phosphate.

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On the external front, the current account deficit is expected to widen to 0.9 percent of GDP in FY26 from 0.6 percent in FY25, reaching 1.1 percent in FY27. Muted import growth, driven by lower Brent crude prices ($75-80 per barrel), and robust service exports and remittances (projected to grow 8-10 percent) help keep the deficit manageable. However, global economic uncertainties are likely to reduce net capital inflows, potentially drawing down India’s foreign exchange reserves from $650 billion to around $620 billion—still sufficient for 11-12 months of imports. Foreign direct investment remains subdued at $40-45 billion annually, constrained by global trade volatility and domestic regulatory challenges.

Inflation is a bright spot, with the ADB revising its FY26 forecast to 3.1 percent from earlier estimates, driven by a sharper-than-expected decline in food prices, which eased consumer inflation to 2.4 percent year-on-year in the first four months. Core inflation is projected to stay near 4 percent, while FY27’s forecast rises to 3.7 percent as food prices align with long-term trends. The RBI’s proactive rate cuts have lowered bank lending rates by 60 basis points and 10-year government security yields by 32 basis points, fostering growth.

Despite tariff headwinds, India’s 6.5 percent growth positions it as a global leader, outpacing developing Asia’s 4.8 percent forecast. Strategic trade diversification, manufacturing boosts under Atmanirbhar Bharat, and skill development investments are critical to sustaining momentum toward a $5 trillion economy by 2027.

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