Domestic Resilience in an Uncertain World

Executive Summary Upcoming state elections will shape the national political landscape ahead of the 2027 cycle.

Nitish Kumar’s exit from Bihar politics could weaken opposition coordination and strengthen the BJP’s position.

The Union Budget maintains a strong focus on public investment, fiscal discipline and tax reforms .

Rising tensions in the Middle East increase energy risks and complicate India’s geopolitical balancing.

Growth remains strong at ~ 7.6% in FY26 , but will slow to 6.3-6.8% in the new year.

Public capex is robust; private investment is recovering and and credit growth has sustained.

Rural demand has underpinned a consumption recovery .

External risks are rising as higher oil prices, geopolitical tensions and capital outflows pressure the rupee.

. Politics & Policy: A Near Term Review . Poll-bound states take centre stage while Nitish’s exit resets Bihar With the NDA sweeping November’s Bihar Assembly polls, the political focus has shifted to the 5 state elections due by May, in West Bengal, Tamil Nadu, Kerala, Assam and Puducherry. Three of these states are established opposition strongholds. While the BJP remains the incumbent frontrunner in Assam, Mamata Banerjee’s TMC is still the force to beat in West Bengal, the DMK-led alliance looks steadier than its challengers in Tamil Nadu and the Congress-led UDF has gained momentum in Kerala after a strong local-body showing. With over 800 assembly seats up for grabs, these polls will serve as the last major electoral test for national parties before 7 critical states – UP above all – vote in late 2027.

Bihar’s CM Nitish Kumar’s sudden move to the Rajya Sabha and the rapid induction of his son, Nishant Kumar, into the JD(U) could destabilise Bihar’s coalition structure and trigger leadership struggles. Mr Kumar served as a bridge between national and regional opposition parties. His exit narrows the pool of nationally-acceptable opposition figures and offers the BJP an opportunity to expand its influence in this key state, which is worth 40 Lok Sabha seats.

. Budget sustains investment push and labour reforms return to the agenda The 2027 Union Budget prioritises public capex (particularly in transport, logistics and energy), fiscal consolidation and tax policy continuity and predictability. Importantly, it confirms that the new Income Tax Code will be implemented from April; contains key provisions to reduce tax disputes (particularly over transfer pricing); fixes a great deal of customs-related ‘plumbing’; and provides incentives to a handful of strategically-important sectors, including electronics manufacturing, renewables and critical minerals.

Alongside the budget cycle, labour reforms returned to the policy agenda. Amendments linked to the rollout of the four national Labour Codes, including provisions under the Industrial Relations framework governing trade unions, strikes and dispute resolution, are part of continued efforts to simplify compliance and encourage labour-market formalisation despite unions’ resistance to provisions seen as weakening collective bargaining. Several narrower regulatory measures have also been recently notified, including rules enabling offshore exploration of atomic minerals and expanded extended-producer-responsibility obligations for non-ferrous metal producers.

However, repeat disruptions in Parliament, including a vote of no-confidence against the speaker and the proposed impeachment of the Chief Election Commissioner, have severely impacted legislative productivity. On current trends, the soon-to-conclude Budget Session may not progress further than passing the Finance Bill and possibly some amendments to the Electricity and Insolvency and Bankruptcy Code (IBC) Acts.

. Iran conflict raises energy and security risks as India’s non-alignment comes into question Talks on the India–EU Free Trade Agreement accelerated, with both sides aiming to narrow differences on tariffs, sustainability provisions and market access. At the same time, discussions with the United States under the Trade Policy Forum focused on incremental sectoral agreements rather than a comprehensive FTA, with differences persisting on agriculture, digital trade and non-tariff barriers. In the Gulf, the India-UAE Comprehensive Economic Partnership Agreement continues to deepen economic ties and reinforce the region’s importance in India’s trade and energy strategy.

With a large diaspora in the Middle East and heavy dependence on energy imports from the Gulf, India faces significant geopolitical challenges from the escalating conflict in the Middle East. Joint US-Israel strikes on Iran have triggered a broader regional war. New Delhi will need to contend with the immediate economic and security risks stemming from this conflict. It responded by urging ‘restraint and dialogue’ while closely monitoring trade routes and the safety of its citizens. Despite its ‘non-aligned’ posturing, the French president’s visit to India, Mr Modi’s visit to Israel and India’s reluctance to condemn the assassination of Iran’s Ayatollah all point to a diplomatic tilt towards the US-Israel Western axis while still courting Russian oil imports.

. A Macroeconomic Review Growth: Holding firm (for now) Going by India’s newly-revised national accounting methodology, which moves the base year from 2011–12 to 2022–23, GDP growth in Q3 (Oct–Dec 2025) was 7.8%.With revisions to the Q1 (down) and Q2 (up) numbers, cumulative Apr-Dec growth stood at 7.7%, higher than the 7.1% seen in the same period in each of the preceding two years. Manufacturing (12.5%) and services (8.9%) led the way, but agriculture (2.5%) exerted a drag on growth. The estimate for full-year FY26 growth has been revised upward to 7.6%, from an earlier 7.4%. Implicitly, to meet the 7.6% target, Q4 (Jan-Mar) growth would need to be at least 7.3%. In our view, the current growth momentum is sufficient to get India close to this target. However, recent geopolitical turbulence will exert a mild drag on near-term activity, which may pull FY26 growth down to 7.4–7.5%. We expect growth to moderate further in the coming year as global headwinds intensify. A prolonged conflict in the Middle East would imply a ‘hit’ of 30-50 basis points, taking FY27 growth down to 6.3-6.8%.

. A more nuanced India growth story The recent methodological changes have brought significant revisions to previous years’ growth numbers: FY24 is now pegged at 7.2% % (down from 9.2%) and FY25 at 7.1% (up from 6.5%). The transition to a 2022-23 base year enhances the robustness of national accounts by deepening GST integration, expanding the coverage of the unincorporated sector, incorporating double deflation in agriculture and manufacturing, and strengthening other benchmarking practices. These procedural changes should also translate to an upgrade in the IMF’s assessment of India’s national accounts data, which it previously rated at ‘C’, signalling the need for ‘urgent methodological updates.’

Agriculture: Confronting weather-related and methodological pressures The farm sector, which has been on a declining trend since the start of the year, saw growth dip to 1.4% in Q3 (down from 5.8% a year ago), weighed down by an uneven northeast monsoon and the double-deflation method used in the revised methodology. Data for the coming quarter will reveal just how much of the drop owes to the methodological changes. Mining and quarrying also reported a sharp decline in Q3, falling from 13.1% in the same quarter last year to 4.7%. Looking ahead, though, despite higher-than-trend temperatures, the rabi (winter) crop outlook is strong, thanks to robust sowing, comfortable reservoir levels and a recovery in food prices, signalling firmer momentum in Q4.

. Manufacturing edges higher, Construction is stable Manufacturing growth edged up to 13.3% in Q3, from 13.2% in Q2; this was also notably higher than the 10.8% recorded in the same quarter last year. For the full year, growth is estimated at 12.5%, marking a 4.2 pp increase over FY25. Utilities, a proxy for power consumption and broader economic momentum, expanded by 1.5% in Q3, down from 3.9% in Q2 but 0.9 pp higher than a year ago. However, full-year utilities growth is projected at 1.5%, just over half of FY25’s 2.9%. Construction growth in Q3 stood at 6.6%, broadly in line with last year’s 6.4% but below the 8.7% registered in Q2. Full-year construction growth is expected at 7.1%, 20 bps lower than in FY25. Notably, the revised methodology’s integration of granular datasets, including GST filings and corporate financial disclosures, is likely to improve the accuracy of measuring construction and real estate activity.

Services: A reviving growth engine Trade, hotels, transport, communication & broadcasting services emerged as the key driver of growth in the tertiary sector, expanding by 11% in Q3, compared to 6.7% a year ago. Its full-year growth is pegged at 10.1%, up from 6.6% in FY25. Meanwhile, the financial, real estate and professional services segment strengthened to 11.2% in Q3, up 1.3 pp from Q2 and marginally above the 11.1% seen a year ago. Full-year growth is projected at 9.9%, broadly in line with FY25’s 10%. Growth in the public administration, defence and other services edged up to 4.5% in Q3 from 4.4% a year ago, though it moderated from 6.9% in Q2. Full-year growth is estimated at 5.8%, 0.8 pp higher than in FY25.

. Macroeconomic indicators: Holding up in early 2026 India’s key macroeconomic indicators continue to present a broadly positive picture. GST e-Way bill issuances have been growing in the double-digits, setting a new peak of 136.8 million December; cumulatively, they grew by ~20% in Apr-Feb, thanks to improving compliance/formalisation. Conversely, though, because of the sharp rate cuts in September, GST revenues have plateaued or even declined on a monthly YoY basis for several months. January and February saw collections of Rs 1.93 and Rs 1.83 trillion, respectively – broadly in line with last year’s levels. (Cumulatively, revenue grew by just 2% in the first 11 months of the year.) Meanwhile, the Purchasing Managers’ Index (PMI) for Manufacturing rose to 56.9 in February from 55.4 in January, reflecting an acceleration in factory activity with output expanding faster supported by stronger domestic orders.

On the other hand, services-sector growth, proxied by the HSBC India Services PMI Business Activity Index, slowed to a 13-month low of 58.1 in February, from 58.5 in January, indicating softer demand conditions amid rising inflation. Conversely, IMA’s Business Confidence and Performance Index (BCPI) rose by a sharp 4.6 points, to 62.7, in January, reversing the dip seen in the previous quarter. The BCPI results suggest that business sentiment has strengthened markedly, with the capex and broader economic outlook showing improvement.

. Credit expansion points to a demand recovery Non-food credit growth has been accelerating since June 2025, improving to 14.4% in January but easing slightly in February. However, growth remains well below the recent, end-2023 peak of 22%. Credit to industry has been improving since last May, barring a marginal dip in November. Lending to the services sector has also been strengthening, touching 15.5% in January. Meanwhile, personal loan growth, which was largely stagnant in the 11–12% range for most of 2025, has risen to 14.9%, although it remains significantly below its peak of 30.4% recorded in August 2023. Over Apr–Feb, automotive demand strengthened across all three segments. Passenger vehicle sales grew by 12.9% and commercial vehicle sales by 11.3%, up from 3.4% and 2.1%, respectively, in the same period last year. Two-wheeler sales grew more modestly, recording a 12% increase compared to 8.6% a year ago.

. A turning investment cycle led by a public capex push Investment has continued to strengthen in recent months, supporting India’s overall growth momentum. Gross Fixed Capital Formation (GFCF) is estimated to grow by 7.1% in FY26, slightly higher than the 6.4% recorded last year. In Q3, GFCF growth stood at 7.8%, moderating from 8.4% in Q2 but recovering from 4.9% in Q1. The Q1 reading is particularly notable as the revised series places it significantly lower than the 7.8% estimated under the previous series for the same quarter, despite substantial front-loading of Central government capex, suggesting that the divergence is likely driven by methodological recalibrations. For the remainder of FY26, while headroom for additional public capex appears limited, private investment momentum is expected to strengthen, supported by a recovery in domestic consumption. Government final consumption expenditure (GFCE), meanwhile, is expected to remain broadly in line with last year’s at 6.6%.

. A rural-led consumption recovery Private consumption continued its recovery momentum, with annual growth accelerating from 5.8% YoY in FY25 to an estimated 7.7% in FY26. On a quarterly basis, consumption growth picked up from 8% in Q2 to 8.7% in Q3, supported by the GST rate reductions and festive spending. However, data from Nielsen indicates that the FMCG market growth moderated to 7.8% in Q3, compared with 12.9% in Q2 and 13.8% in Q1, largely reflecting a high festive base and transitional effects following the rate changes. Rural demand, expanding at 2.9%, continued to outpace urban demand at 2.3% for the eighth consecutive quarter, although the differential narrowed as urban consumption improved and GST-related adjustments tempered aggregate growth.

. Fiscal consolidation remains a strong priority As in previous years, the FY27 Union Budget prioritised fiscal consolidation while maintaining support for investment-led growth. Personal income tax slabs were unchanged, limiting the scope for a direct consumption boost through household tax relief. Instead, the budget continues to rely on public investment as the primary growth driver, with capital expenditure raised to about Rs 12.2 trillion (~3.1% of GDP). At the same time, the government reaffirmed its commitment to fiscal discipline, targeting a fiscal deficit of 4.3% of GDP in FY27, down from 4.4% this year. It has also outlined a medium-term strategy to reduce the central government’s debt-to-GDP ratio to ~55–56% by FY31, signalling a gradual shift towards a debt-anchored fiscal framework. While the sustained capex push should support medium-term growth, the absence of major consumption-oriented measures suggests that any near-term recovery in household spending will likely depend more on improving income conditions and credit availability than on direct fiscal stimulus.

. Inflation remains contained – for now Inflation remains contained despite emerging price pressures across select segments. Retail inflation rose to 2.75% in January, driven by rising food and precious metal prices, according to the first release of the revised (2024 base) CPI series. (The new CPI series is not comparable with the old series due to changes in composition, weights and inclusion of items aligned with the 2023–24 household consumption expenditure survey.) WPI inflation also perked up in January, reaching a 9-month high of 1.8%, led by rising basic metals, manufactured goods and agriculture prices, alongside firming food prices. The RBI’s Monetary Policy Committee (MPC) recently raised its FY27 inflation forecast, signalling a shift from earlier disinflation expectations, with CPI projections for Q1 and Q2 revised upward to 4% and 4.2%, respectively. At its late-January meeting, the MPC kept the policy repo rate unchanged at 5.25% and maintained a neutral stance. If higher input and energy costs are fully passed through to consumers, inflation could rise by 25-50 basis points and, amid turbulent trade flows and elevated crude oil prices, we expect CPI to approach 5% while WPI may near 4% by the end of FY27.

. Oil price shock elevates external risks The external risks facing India have heightened in recent weeks, not least owing to the full-blown Iran-Israel-US war. The effective price of India’s crude-oil basket rose by ~28% in early March, with Brent crude rising above USD 114/barrel following Iran’s appointment of a new hardline Supreme Leader. Supply disruptions have intensified as major Middle Eastern producers face constraints in safely routing shipments through the Strait of Hormuz to global refiners. At the same time, rupee depreciation is expected to further raise import costs. Despite these pressures, India is unlikely to see inflation shooting much above the central bank’s tolerance band. This view could, however, change markedly in the event of a prolonged war.

Trade momentum softens in the face of global headwinds Export growth (merchandise + services combined) for Apr-Jan stood at 5.3%, lower than the 6.6% seen in the same period last year, while imports grew by 6.2%, down from 9.8%. Moreover, the export momentum was largely driven by services, which grew 8.8% compared to 13.1% last year (and well below the 20%+ growth rates seen in FY22 and FY23). Services import growth slowed sharply to 2.3%, from 13.8% in the corresponding period last year. Merchandise exports rose by just 1.3%, an improvement over FY25’s contraction of 4.9%, while merchandise imports grew 2.2%, up from 1.3%. Non-oil exports increased by 7.2% compared to a decline of 2.6% last year, while non-oil imports rose by 4.9% versus 7.9% in the previous year. Looking ahead, amid geopolitical tensions and the impact of US tariffs, the government projects full-year FY26 export growth at 1.3% and import growth at 6%, implying a widening trade gap.

. Global trade: Set to decelerate this year The IMF projects global trade volume growth (goods and services) in 2026 to decelerate to 2.6%, from 4.1% in 2025, rebounding to 3.1% in 2027. While trade in the advanced economies is forecast to ease from 3% in 2025 to 1.9% in 2026, emerging market and developing economies may experience a sharper drop from 5.7% to 3.6%. Key influences include ongoing trade policy shifts like tariffs and truces, alongside AI-driven tech investments providing some offset, though policy uncertainty persists. On the services front, digitally-deliverable services continue their robust expansion, supporting India's overall BoP position.

External account faces capital flow volatility The current account deficit (CAD) narrowed to $ 13.2 bn, or 1.3% of GDP in Q3, from 1.5% in Q2, though it was well above Q1's 0.3%. Driving this shift was a widening merchandise trade gap, though this was partly offset by resilient services exports and rising remittances. The CAD is projected to widen from 1% of GDP in FY25 to 1-1.3% for FY26 as a whole amid export headwinds stemming from US trade policies. Nonetheless, a strong services trade surplus, steady remittance inflows and lower crude oil prices should contain the extent of the deterioration. FDI flows have also weakened, with Q3 recording a net outflow of $ 3.7 bn, compared to net inflows of $ 2.8 bn a year ago. These trends reflect rising outward remittances by foreign investors and increased overseas investments by Indian firms. Simultaneously, foreign portfolio investment (FPI) flows have turned net-negative, adding up to (-)$ 7bn from April 1, 2026 through March 10th, compared to net inflows of $ 2.7bn in FY25. Plainly, investors have shifted towards the safety of the US dollar amid escalating tensions in the Middle East. The abrupt reversal follows a phase of relatively strong inflows earlier in the year and underscores the sensitivity of foreign capital movements to global risk conditions and evolving interest rate expectations.

. Rupee hits record low as oil prices and geopolitical risks mount The rupee is likely to remain under pressure in the near term, with the deepening Middle East conflict and a nearly 25% spike in oil prices clouding the outlook for growth and inflation. The currency touched a record low of 92.3/$ in early March as Brent crude futures climbed to their highest level since July 2022, driven by supply cuts by major oil producers and fears of prolonged shipping disruptions in the Strait of Hormuz. Meanwhile, the US economy unexpectedly shed 92,000 jobs in February, modestly weighing on the dollar, which has otherwise been supported by safe-haven demand. Consequently, the RBI’s rate-setting panel paused rate cuts at its February review after reducing the Repo rate by 125 bps cumulatively over 2025. The central bank also stepped into the market to temper the rupee’s decline and is expected to remain active if depreciation pressures intensify. The dollar’s sharp rally following US strikes on Iran has reassured investors of its safe-haven role as geopolitical tensions escalate. With trade tensions rising, the rupee is expected to weaken further towards Rs 94/USD by the end of FY27.