With Tariffs, India’s Growth Rate Needs a Careful Watch

Aug. 9, 2025

Context

Recent trade measures by the United States have created significant headwinds for India’s economic growth and external account stability.
Effective August 7, the U.S. imposed a 25% reciprocal tariff on Indian exports.
This was followed by a penal levy, an additional 25% tariff, announced on August 6, to take effect from August 29, 2025, in response to India’s continued crude oil imports from Russia.
These developments carry far-reaching consequences for India’s trade balance, current account deficit (CAD), GDP growth, and strategic trade positioning.

India–U.S. Trade Dynamics

India enjoys a merchandise trade surplus with the United States, amounting to $41.18 billion in 2024–25, a figure that has been growing steadily.
The U.S. appears to be targeting both sides of the trade equation, India’s exports and its crude oil import sources.
The reciprocal tariff directly challenges India’s export competitiveness, while the penal levy operates not only as an export deterrent but also as a non-tariff barrier, designed to push India away from Russian crude towards higher-cost imports, possibly from the U.S. itself.
Such unilateral measures undermine the principles of free and fair trade, introducing strategic pressure that extends beyond economics into geopolitical alignment.

Impact of the Reciprocal Tariffs

Export Decline Estimate: Assuming an import elasticity of –1, India’s exports to the U.S. could decline by 25%, a substantial contraction.
Trade Deficit Effect: In 2024–25 terms, this would widen the trade deficit by 0.56% of GDP, pushing it to 7.84%.
GDP Growth Impact: The growth rate could drop by 0.6 percentage points, from 6.5% to 5.9%.
Current Account Deficit: CAD could rise from 0.6% to 1.15%. For 2025–26, given that four months have already elapsed before implementation, the GDP impact might be –0.4%, with a correspondingly smaller CAD increase.

Mitigating Factors and Caveats

New Trade Agreements: India’s trade deal with the United Kingdom, along with ongoing negotiations with the European Union and other partners, may partially offset export losses.
Competitor Tariffs: U.S. tariff hikes on other exporting nations could shift some demand back to Indian products.
Exchange Rate Adjustment: The rupee’s depreciation to around ₹87.5 per U.S. dollar could enhance export competitiveness.
However, even after considering these buffers, India’s GDP growth in 2025–26 is expected to be 0.5% lower than the base forecast, and the CAD could widen by a similar margin.
A forced shift from Russian to U.S. crude imports could further strain the CAD, weaken the rupee, and fuel inflation, especially if global oil prices rise.

Policy Options for India

Negotiation with the U.S.: The current trade deal is not finalised, providing an opportunity to seek compromise while safeguarding sensitive sectors such as agriculture, allied industries, and MSMEs.
Export Market Diversification: While challenging in the short term, expanding into alternative markets remains a long-term necessity.
Additionally, domestic tariff reform could boost export competitiveness. Empirical evidence shows that India’s own import tariffs negatively affect exports, with an estimated elasticity worse than –1.
Reducing tariffs on inputs that feed into export production could strengthen manufacturing and trade resilience.

Impact of the Penal Levy

The penal levy, another 25% tariff, mirrors the economic impact of the reciprocal tariff but is partially softened by commodity exemptions.
Combined, the two measures could cut over 0.6 percentage points from the current year’s projected growth.
India views the penalty as discriminatory, noting that many other countries import more from Russia without facing such sanctions.
The three-week window before the levy takes effect represents a critical period for diplomatic engagement.

Conclusion

The imposition of reciprocal tariffs and penal levies reflects the use of trade policy as a coercive geopolitical tool.
While India may manage the immediate growth slowdown through negotiations, currency adjustment, and new trade partnerships, the persistence of such measures threatens the stability of the global trade system.
A coordinated effort with other nations to restore a rules-based, non-discriminatory trading environment is essential.
In the meantime, India must act decisively to defend its trade interests, strengthen its export base, and minimise dependency on any single market or energy source.