The economic fallout of mounting India and Pakistan tensions, which exploded after India struck terror bases in the neighbouring country early on May 7, will depend on how the situation unfolds in coming days, former vice chairman of NITI Aayog Rajiv Kumar has said.
A prolonged conflict could lead to capital flight and increased fiscal burden, Kumar told Moneycontrol even as India has insisted Operation Sindoor was focused and non-escalatory.
There are worries about an outright military conflict following the strikes which targeted nine terror bases and camps in Pakistan as well as Pakistan-Occupied Kashmir (PoK). These came two weeks after 26 people wree killed in Pahalgam terror attack.
“Fallouts will actually depend on the scale of escalation. Worst-case scenario will be flight of foreign capital and substantial fiscal impact — with higher defence spending. And maybe also higher current account deficit due to defence-related imports,” Kumar said.
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Potential macroeconomic repercussions
Even a limited escalation could see foreign portfolio investors (FPIs) pulling out their investments, leading to capital flight, he said.
The government’s fiscal burden could increase substantially, particularly if defence spending rises in response to a prolonged conflict. India’s fiscal deficit could face additional strain from increased defence allocations, he said.
Current account deficit risks
One of the immediate risks could be an increase in India’s current account deficit (CAD) due to rise in crude oil prices and elevated import demand. In the December 2024 quarter, India’s CAD stood at 1.2 percent of GDP. Kumar said it could widen further if military-related imports surge due to escalating tensions.
Defence-related imports, including equipment and ammunition, could add further strain to the country’s external account, especially if foreign exchange reserves begin to deplete due to geopolitical uncertainties.
The situation is further complicated by the role of China, which has traditionally aligned with Pakistan on strategic and regional matters. As reported by Moneycontrol, Chinese media has been quick to amplify Pakistani claims, highlighting civilian casualties and “damage” to Indian jets.
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