Dealing with the West Asian Turmoil

That the West Asian conflict will adversely impact the Indian economy is a foregone conclusion. Not just the external sector, but the pace of activity in the domestic economy will also take a hit. The latest monthly economic review, released by the Union Finance Ministry, has given an idea of the economic challenges the country will have to face.  

The government now believes that there is “a considerable downside” risk to the earlier economic growth estimate of 7 to 7.4 per cent for 2026-27. Excluding the post-Covid bounce-back in economic growth to over 9 per cent in 2021-22, India’s gross domestic product (GDP) had grown at a stable annual average rate of a little over 7 per cent in the following three years. In 2025-26, growth is estimated to be higher at 7.6 per cent. It now appears that the West Asian conflict will result in a deceleration in the growth rate in 2026-27. 

Retail inflation rose to a 10-month high of 3.21 per cent in February 2026, thanks to a sharp increase in food prices. The earlier projection of retail inflation staying in the range of 2.1-3.1 per cent in 2025-26 will probably be revised upwards and the year may end closer to 4 per cent. In the previous three years, retail inflation had declined steadily from 6.7 per cent in 2022-23 to 5.4 per cent in 2023-24 and further down to 4.6 per cent in 2024-25.  

Remember that the February 2026 number on retail inflation does not capture the full impact of rising crude oil prices. The Indian Basket crude oil price averaged around $69 per barrel in February 2026, and the March number has already jumped to around $112 a barrel. Thus, the pace of deceleration in retail inflation, seen from 2022-23 to 2024-25, will be contained in 2025-26, and for 2026-27, the trajectory may be northward.  The Reserve Bank of India and its Monetary Policy Committee, therefore, will have to be a little more focused on the need for maintaining price stability in its monetary policy reviews in the coming months.  

The government has done its bit to contain retail inflation in 2026-27. Its decision to slash special additional excise duty on petrol and diesel has helped provide relief to the oil refiners and spared the consumers from an immediate impact of a rise in crude oil prices. But it is not clear for how long retail petrol and diesel prices can be kept in check, if the situation on the West Asian war front worsens. Retail inflation, therefore, is likely to move northwards during 2026-27, if oil prices remain elevated. 

At another level, the impact of the duty cut is estimated to result in a revenue loss of Rs 1.3-1.7 trillion on an annualised basis. For the full year of 2026-27, a revenue loss of this nature could widen the fiscal deficit by 0.33-0.43 per cent of gross domestic product (GDP) in 2026-27. Of course, the export duty levied on aviation turbine fuel will reduce the fiscal deficit impact marginally. But there is no denying that the task of reducing the fiscal deficit to 4.3 per cent of GDP, as projected in the 2026-27 Budget, will become formidable.  

Another hit on the Union government’s public finances can be expected from the fertiliser sector, where prices have shot up in view of the crude oil crisis. The demand for maintaining fertiliser prices for farmers may have to be met. This will mean a higher fertiliser subsidy bill, which at Rs 1.7 trillion estimated for 2026-27 (a projected cut of over 8 per cent over 2025-26) will have to be revised upwards, putting more pressure on the fiscal deficit. 

As for the external sector, India’s merchandise trade deficit had widened to about $280 billion in 2024-25 or about 7.5 per cent of GDP. The trade deficit in the first eleven months of 2025-26 has already risen sharply to $301 billion, which would be over 8 per cent of GDP, and is set to be higher by the end of March 2026. Given the way global trade has fared and the way the West Asian crisis will dampen further trade prospects with oil prices rising, the deficit is all set to be higher in 2026-27.  

The current account deficit will also widen from about 1 per cent of GDP in 2025-26 to about 2 per cent of GDP in 2026-27, according to some experts. This will be no comfort for managers of the Indian economy.  Overall foreign investment flows will continue to remain weak and there could be a net balance of payments deficit, putting pressure on India’s foreign exchange reserves.  

The tasks before the Indian government are hugely onerous and challenging. Even if the war comes to an end within a few weeks, its impact on oil prices will have to be managed as normalcy in the West Asian region may not return soon.  

The West Asian turmoil, therefore, is no ordinary crisis. If the Indian economy has to emerge out of it with the least damage, then there is need for a package of policy reforms. At one level, the government must refocus its energies on increasing its domestic capacity for producing energy to reduce dependence on imports.  

Domestic policy reforms have to be ushered in to make the Indian manufacturing sector more competitive, not just to reduce costs of production to sustain domestic demand, but also to boost exports. The need for reducing and rationalising import tariff, particularly for intermediates and raw materials, will be no less important. India must actively examine joining global trading arrangements like the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) and the Investment Facilitation for Development (IFD) Agreement, a plurilateral arrangement under the World Trading Organisation (WTO).  

Most importantly, steps will be needed to encourage domestic industry to increase investments in the country, whose current pace needs to pick up substantially. And the government must avoid falling into the trap of introducing non-tariff barriers for imports. Since there will be pressure on the government’s revenue and expenditure, there will be need for a more pragmatic approach to fiscal consolidation. These steps are all reforms that the government must examine actively and consider their implementation. This way, the West Asian crisis will not remain only a challenge but will become an opportunity for reviving the Indian economy’s growth and development.  

Note: This article has been authored by A.K. Bhattacharya, Editorial Director and Former Editor, Business Standard. It was first published in the March 2026 issue of CII ARTHA (Issue 10).