Context: Despite global disruptions arising from the West Asia conflict, India’s macroeconomic indicators have remained stronger than initially expected.
- GDP growth has remained above 7%, while inflation has stayed relatively contained and the current account deficit (CAD) remains low.
- However, the headline numbers may conceal vulnerabilities, particularly because services are currently supporting growth, containing inflation and financing the external deficit.
Why Did Growth Remain Resilient?
- Monetary easing: The Reserve Bank of India (RBI) reduced the repo rate by 125 basis points between December 2024 and December 2025, lowering borrowing costs and supporting consumption and investment; monetary-policy transmission generally takes a few quarters.
- Goods and Services Tax (GST) cuts: Lower GST rates reduced prices, increased purchasing power and supported economic activity.
- Higher exports to the US: Removal of certain tariffs supported India’s exports to the United States.
- Front-loading of production: Manufacturers increased production in anticipation of possible future energy-supply constraints.
- HSBC’s growth indicators suggested 7–7.5% GDP growth in Q1, while SBI projected around 8% growth.
Services Sector: The Key Stabiliser
- Services account for around 55% of India’s GDP, making the sector crucial for overall growth and inflation outcomes.
- Strong services activity is currently helping India maintain high growth while keeping inflation relatively low.
- Services exports, particularly software and other business services, also generate foreign exchange and help contain the current account deficit.
- Thus, the resilience of the services sector is central to India’s present “Goldilocks” macroeconomic picture.
Inflation: Low Headline, Divergent Components
- Retail Consumer Price Index (CPI) inflation has increased from October but remains close to the RBI’s 4% target.
- The unusual feature is that inflation remains contained despite reasonably strong demand and supply-side pressures.
- Food and non-food goods inflation were already averaging around 5.4% year-on-year in July, indicating underlying price pressures.
- Headline inflation remains restrained largely because services inflation is unusually low at around 2.5%.
- If services inflation rises as economic activity strengthens, headline inflation could increase rapidly, potentially requiring tighter monetary policy.
Current Account Deficit (CAD)
- The current account records net transactions involving goods, services, income and transfers between India and the rest of the world.
- A Current Account Deficit (CAD) occurs when the country’s external payments exceed its receipts on the current account.
- India traditionally runs a large goods trade deficit, as merchandise imports exceed exports.
- This deficit is partly offset by services exports and remittances from Indians working abroad.
- Despite strong growth and costlier imports, India’s CAD remains relatively contained at around 0.3% of GDP, according to the cited RBI data.
Why the CAD Could Worsen
- The apparent stability of the CAD is partly because rising services exports and remittances are compensating for the widening goods trade deficit.
- Services-export growth has already moderated, raising questions about how long services can continue financing the merchandise deficit.
- Uncertainty over the impact of Artificial Intelligence (AI) on India’s services exports adds another risk to this external-balance model.
Risks to GDP Growth
- Rising credit growth does not necessarily indicate broad-based economic strength; part of it is being driven by the government’s credit-guarantee scheme for small firms, higher working-capital requirements due to commodity prices and rapid growth in gold loans.
- Rapid expansion of gold loans can sometimes indicate financial stress among borrowers rather than healthy investment demand.
- The current front-loading of manufacturing production could be followed by a period of weaker activity once inventories and advance production are exhausted.
- A stronger El Niño could adversely affect agricultural production, weakening overall growth.
The “Goldilocks” Scenario and Its Vulnerabilities
- Goldilocks economy refers to an economic situation characterised by strong growth, low inflation and relatively stable external balances.
- India currently appears close to this situation, but the stability is not necessarily broad-based or permanent.
- The economy’s resilience is heavily dependent on the services sector for growth, low inflation and foreign-exchange earnings.
- A rise in services inflation could force the RBI to raise interest rates, potentially slowing economic growth.
- A slowdown in services exports could simultaneously weaken the current account position and external-sector resilience.
Key Takeaway
- India’s strong GDP and low headline inflation should not be interpreted as the absence of economic risks.
- The present stability rests significantly on the services sector, which is simultaneously supporting growth, containing inflation and offsetting the goods trade deficit.
- The sustainability of India’s macroeconomic resilience will therefore depend on whether services growth remains strong, services inflation stays moderate and services exports continue to finance the widening merchandise deficit.
