Raghuram Rajan Warns India: Build Oil Reserves and Diversify Trade

Economist Raghuram Rajan has issued a critical warning to Indian policymakers, suggesting that recent geopolitical disruptions, such as the Strait of Hormuz crisis, serve as a vital wake-up call for national economic resilience. He emphasizes that while headline trade volumes remain stable, the underlying vulnerabilities in energy and supply chains require immediate strategic action.

Strengthening Energy Security and Strategic Reserves

Rajan highlights that the Strait of Hormuz remains a significant bottleneck for India, given its massive reliance on the route for crude oil, LNG, and LPG imports. He argues that a potential peace deal between the US and Iran is not a permanent solution to the vulnerability exposed by these disruptions.

To mitigate this risk, Rajan suggests two primary paths:

However, he cautioned that the transition to green energy brings its own risks, noting that India remains heavily dependent on imported solar cells and wind components. He called on Indian industry to take a more aggressive role in developing domestic alternatives.

On the trade front, Rajan noted that India is currently managing US tariff threats better than earlier this year. He identified a 12.5% tariff tied to forced-labor concerns, which is slightly higher than the ~10% rates faced by Pakistan and Bangladesh. A more pressing concern, however, is a potential "excess capacity" probe that could impose additional tariffs on Indian goods.

To insulate the economy, Rajan advocates for a dual strategy of diversifying both import sources and export markets. He also warned that the next major vulnerability might not be energy, but rather the supply of pharmaceutical inputs used in manufacturing generic drugs, urging the creation of strategic buffers in that sector as well.

Addressing the Rupee and Investment Gaps

Rajan addressed the rupee's ~14% depreciation against the US dollar over the last two years, attributing it to structural issues rather than just oil price volatility. He pointed out a concerning gap between India's strong headline GDP growth and its ability to attract sufficient Foreign Direct Investment (FDI).

While remittance inflows remain robust, Rajan questioned why domestic investment hasn't kept pace with economic growth, describing it as a gap between "the walk and the talk." Regarding the current account, he noted that if oil prices stabilize around $85 per barrel, India's position looks "relatively mild," suggesting that policymakers might be overreacting with costly capital-inflow incentives like the FCNR(B) proposal.

Key Takeaways