Raghuram Rajan Warns India: Build Oil Reserves and Diversify Trade

As global trade routes face unprecedented geopolitical tensions, former RBI Governor Raghuram Rajan has issued a critical warning regarding India's economic resilience. He argues that while headline trade volumes may appear stable, the cumulative impact of disruptions like the Strait of Hormuz crisis necessitates immediate structural shifts in energy and trade policy.

Strengthening Energy Security and Strategic Reserves

Rajan emphasized that the vulnerability exposed by the potential disruption in the Strait of Hormuz cannot be ignored, regardless of any US-Iran peace developments. Given that the strait is a vital artery for India's crude oil, LNG, and LPG imports, he urged the government to significantly expand its strategic oil reserves.

To manage immediate energy shocks, Rajan suggested that India requires more flexible backup options. He pointed to China's model of being able to rapidly ramp up coal production as a temporary buffer. However, he cautioned that the transition to renewables is not a silver bullet; India currently faces its own supply-chain risks due to a heavy reliance on imported solar cells and wind components. He called on domestic industry to take a more aggressive role in manufacturing these green technologies locally.

On the trade front, Rajan noted that while India is currently managing US tariff threats better than earlier this year, new risks are emerging. He flagged a 12.5% tariff tied to forced-labor concerns, which is slightly higher than the rates faced by neighbors like Pakistan and Bangladesh.

A more significant threat, according to Rajan, is the potential "excess capacity" probe, which could lead to additional tariffs stacked on top of existing rates. To mitigate these risks, he advocated for a dual strategy: diversifying import sources to avoid over-reliance on single geographies and expanding export markets to insulate the economy from localized shocks.

Addressing the Rupee and Investment Gaps

Rajan also addressed the structural concerns surrounding the rupee, which has depreciated nearly 14% against the US dollar over the last two years. He argued that this slide is not merely a result of volatile oil prices but a sign of a deeper issue: India is failing to attract sufficient Foreign Direct Investment (FDI).

Despite strong GDP growth and robust remittance inflows, Rajan highlighted a concerning gap between "the walk and the talk"—noting that domestic investment has not matched the country's headline economic growth. While he believes India’s current account remains manageable if oil prices hold near $85 a barrel, he suggested that policymakers might be overreacting with certain capital-inflow incentives.

Preparing for the Next Commodity Shock

Looking toward the horizon, Rajan warned that the next major vulnerability might not be energy, but pharmaceutical inputs used in generic drug manufacturing. He urged policymakers to adopt a three-to-five-year view on critical commodity exposure, focusing on building strategic buffers and strengthening ties with friendly supply nations.

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