Raghuram Rajan Warns India to Build Strategic Oil Reserves and Diversify

Former RBI Governor Raghuram Rajan has issued a stern warning to Indian policymakers, emphasizing that recent geopolitical disruptions like the Strait of Hormuz crisis are "wake-up calls" for economic resilience. He argues that India must move beyond reactive measures and focus on long-term strategic buffers to protect its economy from global volatility.

Strengthening Energy Security and Strategic Reserves

Rajan highlights a critical vulnerability in India's energy supply chain, noting that the Strait of Hormuz is vital for India's crude oil, LNG, and LPG imports. Even if diplomatic breakthroughs occur, such as a potential US-Iran peace deal, the underlying risk remains. He argues that India's current strategic oil reserves are insufficient and must be significantly expanded to withstand prolonged supply disruptions.

Beyond oil, Rajan suggests that India needs flexible energy backups. He pointed to China's model of being able to rapidly ramp up coal production as a pragmatic short-term 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. For true resilience, he argues, Indian industry must take a more aggressive role in domestic manufacturing of these green technologies.

On the trade front, Rajan notes that while India is currently managing US tariff threats better than earlier this year, new risks are emerging. He flagged a potential 12.5% tariff linked to forced-labor concerns—slightly higher than the 10% rates faced by neighbors like Pakistan and Bangladesh. More concerning is a potential "excess capacity" probe that could impose additional tariffs on Indian goods.

To mitigate these risks, Rajan advocates for a dual strategy of diversifying both import sources and export markets. This would reduce India's exposure to any single geopolitical shock or unilateral trade policy change from major economies.

Addressing the Rupee and Investment Gaps

Addressing the rupee's 14% depreciation against the US dollar over the last two years, Rajan dismissed the idea that oil prices are the sole driver. Instead, he identified a structural issue: a gap between India's high GDP growth and its ability to attract significant Foreign Direct Investment (FDI). While remittance inflows remain robust, he questioned why domestic investment has not kept pace with the country's economic "talk."

Rajan also suggested that if oil prices stabilize around $85 per barrel, India's current account position remains "relatively mild." He cautioned that policymakers might be overreacting by considering expensive capital-inflow incentives, such as the FCNR(B) proposal.

Looking Beyond Oil: The Next Vulnerability

Rajan concluded by urging a three-to-five-year outlook on commodity exposure. He warned that the next major shock might not be energy, but rather the supply of pharmaceutical inputs essential for India's massive generic drug industry. Building strategic buffers and domestic production capacity in these critical sectors is no longer optional—it is a necessity for national economic security.

Key Takeaways