Raghuram Rajan Warns India: Build Oil Reserves and Diversify Trade

As geopolitical tensions reshape global trade routes, former RBI Governor Raghuram Rajan has issued a critical warning to Indian policymakers regarding energy security and economic resilience. He argues that the recent disruptions in the Strait of Hormuz serve as a wake-up call for India to strengthen its strategic buffers and reduce reliance on single-source dependencies.

Strengthening Energy Security and Strategic Reserves

Rajan emphasizes that India’s vulnerability to maritime disruptions is a structural reality that cannot be ignored. The Strait of Hormuz is a vital artery for India’s imports of crude oil, Liquefied Natural Gas (LNG), and Liquefied Petroleum Gas (LPG). Even if diplomatic resolutions, such as a potential US-Iran peace deal, occur, the underlying risk remains.

To mitigate this, Rajan suggests two parallel paths. First, India must significantly expand its strategic oil reserves. Second, the country needs flexible backup energy options. He points to China's model of being able to rapidly ramp up coal production as a tactical necessity, while simultaneously pushing for a long-term transition to renewables. However, he cautioned that the renewable transition brings its own risks; India remains heavily dependent on imported solar cells and wind components, necessitating a stronger domestic manufacturing push.

On the trade front, Rajan noted that while India is currently in a better position than it was earlier this year, new challenges are emerging. He highlighted an incoming 12.5% tariff tied to forced-labor concerns—a rate slightly higher than the 10% faced by neighbors like Pakistan and Bangladesh.

A more significant looming threat is a potential "excess capacity" probe by the US, which could lead to additional tariffs. To safeguard against such protectionist shifts, Rajan argues that India must aggressively diversify both its import sources and its export markets to ensure that a single geopolitical shock does not paralyze the economy.

Addressing FDI Gaps and the Weakening Rupee

Rajan also addressed the structural issues affecting the Indian Rupee, which has depreciated nearly 14% against the US Dollar over the last two years. Interestingly, he attributes this slide less to volatile oil prices and more to a lack of Foreign Direct Investment (FDI). While remittance inflows remain robust, he noted a concerning gap between India's strong GDP growth and its actual level of domestic investment.

He suggested that while the current account position remains "relatively mild" if oil stays around $85 per barrel, policymakers should be wary of overreacting with costly capital-inflow incentives. Instead, the focus should be on bridging the gap between "the walk and the talk" regarding domestic investment.

Looking Beyond Oil: The Next Vulnerability

Looking toward the next three to five years, Rajan warned that the next major shock might not be energy-related, but rather a supply chain crisis in pharmaceutical inputs. As a global leader in generic drugs, India's reliance on imported active ingredients could become a critical failure point. He urges the government to build strategic buffers and domestic production capacities for all critical commodities to ensure long-term economic sovereignty.

Key Takeaways