Indo-US trade deal: India's problem is not the current account but the capital account

Much of the analysis of the Indo-US trade deal centres on what India has gained or lost in terms of trade. But the point about the deal is not that it improves our export prospects while opening up selectively to American goods. 

It is that the deal improves the prospects for capital inflows, FDI and FII. These inflows have been distinctly unsatisfactory consequent to the US's imposing additional tariff of 50 per cent on Indian exports (barring a few specified items).

Foreign investors do not view favourably any emerging market towards which the US administration is ill disposed. That would have meant a downward pressure on the rupee indefinitely. Any further fall in the rupee had the potential to destabilise the Indian growth story. The rupee exchange rate rising to around Rs 90 from Rs 92 or so before the deal was announced is an indicator of how the attitude of the US towards India matters.

More in my BS article, Indo- US trade deal is not just about trade

Indo-US trade deal is not just about trade

The deal shifts the US posture towards India from hostile to neutral, and that matters for growth

T T Ram Mohan

The India-US trade deal, for which a framework for an interim agreement has been agreed, will not lack critics. The Congress party has called it a surrender. A farmers’ organisation has called for protests. Many will pore over the fine print once the details are finalised and argue that the deal is more favourable to the United States.

We need to be clear about a couple of things.

First, any nation negotiating a trade deal with the Trump administration must expect the deal to be tipped in favour of the US. President Donald Trump has made it clear that his priority is to reset America’s economic equations with the rest of the world. He is determined to use the economic and military might of the US to do so.  

For the entire post-War period until recently, the US was happy to let the advantage lie with many of its trade partners. It believed that it was economically strong enough to do so. Sharing prosperity with partners, the US believed, would make for world peace and it would also keep the world safe from communism. 

Not any more. Mr Trump rode to power in 2016 by insisting that the time had come to reorder trade relationships to the benefit of the US.  He didn’t quite manage to do so, partly because his initiatives were scuttled by Washington establishment status quoists in his Cabinet. In his second term, Mr Trump is determined not to make that mistake.  He has filled his administration with loyalists who will faithfully execute his orders. 

Last July, Mr Trump reiterated his perception of where matters stand. He said in a post, “The United States of America has been ripped off on TRADE (and MILITARY!), by friend and foe, alike, for DECADES. It has come at a cost of TRILLIONS OF DOLLARS, and it is just not sustainable any longer - And never was!” In any trade deal, therefore, it will be Advantage US.

Second, we must be clear that the overall relationship with the US is contingent on arriving at a trade deal that America approves. Not doing a trade deal means courting US hostility across the board. In negotiating a trade deal with the US, every nation faces a choice: Does it want the US to be a friend or a foe? 

Mr Trump’s trade deal with the European Union is an excellent illustration of the two points made above. For the EU, the issue was not just access to the vast American market. It was also American support to Europe in the Ukraine conflict, including the supply of critical weaponry and intelligence and America’s involvement in the North Atlantic Treaty Organization (Nato) itself. Faced with the prospect of jeopardising its defence relationship with the US, the EU settled for terms that were widely seen as humiliating.

The EU now faces a baseline 15 per cent tariff on its exports to the US. In addition, steel, aluminium and copper exports from the EU will face a 50 per cent tariff. Car exports would be subject to a quota.  The EU has also agreed to buy an additional $750 billion in US energy products over the next three years and make investments worth $600 billion in the US by 2029. The EU, for its part, will eliminate tariffs on imports of all US industrial goods and provide preferential access to a wide range of US seafood and agricultural products.  A more abject surrender is hard to visualise. Mr Trump has likewise signed deals with the UK, Japan and South Korea — all close allies of the US —that are conspicuously one-sided.  

The lesson for India is that the Indo-US trade deal is not just about access to the US market. India has weathered Mr Trump’s 50 per cent tariff on Indian exports much better than expected. India’s total exports are up 4.4 per cent year on year despite Trump’s tariffs. Nor have exports to the US suffered — they are up 9.8 per cent in April-December 2025.

The problem for India is that capital flows are flagging. This is happening at a time when India’s current account deficit of 1.3 per cent of gross domestic product (GDP) compares favourably with that of a range of countries, including Canada, the United Kingdom and Australia, as the latest Economic Survey notes. India had no difficulty financing current account deficits of a much higher magnitude in the post-reform era. Today, we are hard-pressed for capital inflows, and the rupee is under pressure despite a highly favourable set of economic indicators. That is not something to be treated lightly.

Gross foreign direct investment (FDI) fell marginally by 2 per cent in calendar year 2024. This may be in line with the general decline in FDI flows in recent years but it does not help us at all. At the same time, outward FDI from India as well as repatriation of profits by foreign firms in India have increased sharply. As a result, net FDI in April-November 2025 was a mere $5.6 billion. The bigger problem at the moment is with foreign portfolio inflows (FPI). It was (-)$3.9 billion in April-December 2026.  

There could be many reasons why FPI inflows have turned negative. You can be pretty sure, however, that the orientation of the US administration towards India is an important factor. When India is subject to a punitive tariff regime by the US, fund managers are unlikely to view India as a good place to invest in. The Treasury department houses individuals, including the Treasury Secretary, with strong links to Wall Street. They are known to work the phone lines with fund managers on a range of matters. 

Absent a trade deal, therefore,  we must reckon with rough weather in respect of capital flows, however good our macroeconomic indicators. (Using the future tense, as in the original version, because the deal is not finalised yet- TTR . And who knows, services exports to the US will not be subject  to punitive action as well? Also at risk are  defence collaboration, technology transfers and the entire strategic partnership that has been built over the past two decades. Thus, India’s strong economic performance in the present year is  no assurance that it can be sustained in the absence of an Indo-US trade deal. 

The point about the Indo-US trade deal is not that it involves compromises, such as cutting back on oil imports from Russia or scaling up imports of goods from the US to $100 billion annually for the next five years. It is also not just about getting a tariff rate of 18 per cent, one that is lower than that of many of our competitors. The substantive point is that it moves the US posture towards India from hostile to neutral. That is good news for the Indian economy.

 

Marco Rubio at Munich: the West versus the rest?

US Secretary of State Marco Rubio's impassioned speech at the Munich security conference a few days ago lays out very clearly what the US thinks is wrong with the world and how it thinks it should be set right.

Rubio highlighted the three principal mistakes the West made in the post- War era.

First mistake: free trade

.....we embraced a dogmatic vision of free and unfettered trade, even as some nations protected their economies and subsidized their companies to systematically undercut ours – shuttering our plants, resulting in large parts of our societies being deindustrialized, shipping millions of working and middle-class jobs overseas, and handing control of our critical supply chains to both adversaries and rivals. 

Second mistake: climate change thesis

To appease a climate cult, we have imposed energy policies on ourselves that are impoverishing our people, even as our competitors exploit oil and coal and natural gas and anything else – not just to power their economies, but to use as leverage against our own. 

Third mistake: opening the doors to immigration:

And in a pursuit of a world without borders, we opened our doors to an unprecedented wave of mass migration that threatens the cohesion of our societies, the continuity of our culture, and the future of our people. 

How to set the world right? Europe must follow America's lead in asserting the primacy of Western civilisation over the rest of the world. The centuries of colonialism before the WW2 were the era of Western greatness and it's time for the West to put aside the post-WW2 order in order to reclaim that dominance:

For five centuries, before the end of the Second World War, the West had been expanding – its missionaries, its pilgrims, its soldiers, its explorers pouring out from its shores to cross oceans, settle new continents, build vast empires extending out across the globe. 

But in 1945, for the first time since the age of Columbus, it was contracting.  Europe was in ruins.  Half of it lived behind an Iron Curtain and the rest looked like it would soon follow.  The great Western empires had entered into terminal decline, accelerated by godless communist revolutions and by anti-colonial uprisings that would transform the world and drape the red hammer and sickle across vast swaths of the map in the years to come. 

Against that backdrop, then, as now, many came to believe that the West’s age of dominance had come to an end and that our future was destined to be a faint and feeble echo of our past.  But together, our predecessors recognized that decline was a choice, and it was a choice they refused to make.  This is what we did together once before, and this is what President Trump and the United States want to do again now, together with you. 

The troubling question for Europe is what the new colonial enterprise means for them. In the old days of colonialism, Europe called the shots. The partnership that Rubio now advocates is one in  which the US will hold the upper hand. As we have seen, all trade agreements the US has signed so far are tipped in favour of the US. And the US  expects Europe to defer to the US in matters that the US thinks are vital to itself, such as Greenland.

Many Europeans may well think that this order, unlike the earlier colonial era, is one in which they are at the receiving end of colonialism! 

Indo-US trade deal: some preliminary thoughts

It's a trade deal, not an agreement. The broad contours have been agreed between PM Modi and President Trump. Now the details have to be filled in.

Trump made a number of claims in his post on Truth Social:

• India will stop buying Russian oil
• American exports to India will be subject to zero tariffs and there will be no non-tariff barriers
• India will buy $500 bn of American goods

None of the above appears likely.

India will scale down purchases of Russian oil but will not scrap oil purchases altogether- the relationship with Russia is too deep and too valuable for India to attempt such a radical step.

Zero tariffs on all American exports are also a pipe-dream. Some exports, particularly agricultural exports, will face tariffs. No government will survive if it allows agricultural products to come in freely.

India imports about $40 bn worth of goods and $83 bn of goods plus services, so $500 bn appears way out- unless spread out over several years. Even if India steps up oil and defence purchases, $500 bn appears distant.

The tariff of 18 per cent is slightly lower than that for competitors such as Vietnam but that in itself is not going to confer great advantage. All trade is linked to FDI- and unless US FDI rises considerably, we are not going to see any great increase in Indian exports.

But for India the deal is not really about pushing exports. Overall exports have not suffered in FY 26- despite US tariffs, exports are 4.4 per cent up over the previous year. Indian exports to the US in the aggregate have not suffered either, thanks to electronic and pharma exports that are not subject to tariffs. Gems and jewellery, apparel have taken some hit, though, but these sectors have not suffered as much as feared, partly because of support from the government to cushion the impact of Trump tariffs.

For India, the deal is about capital flows, FDI and FII and the impact on the rupee. The rupee has bounced back from Rs 92.04 to around Rs 90.28 after the deal was announced. The deal certainly brings stability to the rupee. 

The deal is also about the overall strategic relationship with the US, including defence supplies and an understanding on containing China in the Indo-Pacific. We do not wish to be an ally of the US but nor do we wish to be seen as a foe. Commentators have noted that trust will take a long, long time to restore but the trade deal is a good start. 

How Kevin Warsh got selected

I had a post yesterday on Kevin Warsh, the new appointee for Fed Chairman. 

By way of post-script, I want to write about the process followed for his selection. What I write is gleaned from various reports in the media. 

Warsh missed out on the job nine years ago when Trump gave it to Jerome Powell instead. According to reports in the media, Trump thought Warsh looked far too young to be taken seriously.

Soon after getting elected, Trump considered Warsh for the job of Treasury Secretary, a job that was given to Scott Bessent later.

For the Fed Chairman role, Bessent drew up a list of about ten candidates. After talking to them, he reduced the short-list to four. He had detailed meetings with the four where he asked them to spell out their views on interest rates, among other matters. The President then met all the four candidates. There was one more meeting between Warsh and Trump last Thursday after which Trump decided to go ahead with the appointment.

In this entire period, all names under consideration were in the public domain. Their views and comments on a range of matters were dissected and parsed in the media. The financial markets' reaction to some of the names could be discerned. For the short-listed four, betting markets sprang up. There were reactions on Capitol Hill to some of the prominent names, such as Kevin Hassett.

Hassett's chances dimmed after the Department of Justice announced an investigation of Jerome Powell's spending on the renovation of the Fed. Angry members of the Congress made it clear they would not process Hassett's appointment until Powell's case had been settled.

To cut a long story short, the selection of the Fed Chair took place in the full glare of publicity with the reactions of the markets and prominent public figures getting factored into the final selection. We have a pretty good idea of what we might expect of various candidates. And the process doesn't quite end there. The President's nominee has to be confirmed by US Congress. He will be grilled on his views and his record closely examined. It is a process that deserves admiration.

Quite different from some name being sprung on the public one day, would you say? 

What do we make of Kevin Warsh, Trump nominee for Fed chief?

Give credit where it's due. President Trump's appointee as Fed chief, Kevin Warsh, is exceptional talent- and he is nobody's stooge. Trump seems to have made a good call. 

Warsh is relatively young (55). At 35, he was the youngest member ever of the Fed Board of Governors when appointed to it in 2006. With his Kennedyesque looks, he may well be the most handsome Chair of the Fed in its history.

Warsh lacks the heavyweight academic credentials of Alan Greenspan, Ben Bernanke and Janet Allen, all three PhDs in Economics and the latter two big names in academia. He got his BA in public policy and then a JD in Law from Harvard. His background is similar to that of Jerome Powell's (BA in political science plus law). 

But that's precisely the striking thing about him- how many people with BAs get on to the board of a central bank and especially the Fed at 35? Prior to that he worked at the middle level in the M&A department of Morgan Stanley and then briefly in the Bush administration. It says something about the man's calibre that, with this fairly light experience, he could vault on to the board of the Fed. 

Warsh proved his mettle during the 2008 financial crisis when he served as a conduit to Wall Street, given his numerous contacts.  According to Ben Bernanke, his experience and insights helped contributed to the crisis-fighting strategy  of the Fed.   

Bernanke notes his contribution to the financial reform efforts that followed the crisis. He led a committee that conceptualised 'macroprudential regulation'. Bernanke writes:

"In late 2008, amid the crisis firefighting, we at the Fed began working on our own proposals for financial reform. I wanted to have a well formulated position before the legislative debates went into high gear. Kevin Warsh led a committee of Board members and Reserve Bank presidents that laid out some key principles. Kevin's committee considered a more explicitly 'macroprudential' or system-wide, approach to supervision and regulation. Historically, financial oversight had been almost entirely 'microprudential' – focused on the safety and soundness of individual firms, on the theory that if you take care of the trees, the forest will take care of itself. In contrast, the macroprudential approach strives for a forest-and-trees perspective." (Wikipedia)

Warsh disagreed vehemently with the Fed's persisting with Quantitative Easing beyond a point. His basic point was that the it went well beyond the remit of the Fed. That is a position he holds to this day. He warned- incorrectly, as it turned out- about inflation during the financial crisis and he expressed his opposition to QE2 while voting for it out of respect for Bernanke. Think of it- a BA arguing with a prospective Nobel Laureate on a topic on which the latter had made his reputation, banking crises! That shows confidence and it shows class.

Warsh left the Fed in 2011. He has since straddled the worlds of academic and financial markets. He's a Distinguished Visiting Fellow at the Hoover Institution and a lecturer at Stanford Business School, a testament to the fact that he's taken seriously in academic circles. In 2017, he was a contender for Fed Chairman. Trump eventually opted for Powell, partly because he thought that Warsh was too young and looked too young to be taken seriously as Fed chief! It was a decision that Trump came to regret- and that he has now set right.

Warsh has moved from hawk on inflation during the financial crisis years to a relative dove in recent years. He backs Trump's instinct for cutting interest rates and he thinks the Fed has underestimated the productivity boost to the US economy emanating from AI. His detractors see his shift as opportunistic but many grant that Warsh is not somebody who takes the independence of the Fed lightly. If he did, Trump may not have chosen him. Criticise Trump as much as you likes but he understands that without a credible and competent Fed, he cannot get the economy to perform. That's why he overlooked a couple of candidates who were perceived as excessively deferential to him.

Warsh favours a 'regime change' at the Fed. He wants the Fed get its balance right- he thinks at the moment its size is too big and its interest rates too high. Warsh would move to shed a big chunk of its portfolio. That would cause interest rates to rise. The Fed can then move to cut its policy rate with vigour. He has Trump's backing but he will need to carry his colleagues with him.

Call me an optimist but I can see Warsh at the helm of the Fed providing the right to support to Trump as he attempts a major reset of the US economy. 

Trump is right, the US economy is booming

 At Davos, President Trump said:

Growth is exploding, productivity is surging, investment is soaring, incomes are rising, inflation has been defeated. We are the hottest country anywhere in the world.

His remarks drew jeers from his detractors. 

Well, Trump's right.

In Q4, US gdp growth is projected at 5.4 per cent, according to the Atlanta Federal Reserve. Jason Furman, Harvard Professor and former Chairman of the President's Council of Economic Advisors is quoted as saying:

“Most advanced economies would be thrilled to have the US growth numbers." 

Which is more or less what Trump said at Davos. 

We have the IMF's revised forecasts for the world economy and the US. 

The world economy is projected to grow at 3.3 per cent in 2025, a shade below the growth rate of 3.4 per cent in 2024. US gdp will grow at 2.1 per cent, higher than the 1.8 per cent forecast last April (although below the unusual growth rate of 2.8 per cent in 2024).

Here's the juicy part: global growth and US growth are not one-off things in the face of tariffs- it's not that advance stocking by importers, implementation of tariffs late in the calendar year and absorbing of costs by importers have cushioned growth for one year. 

In 2026, global growth will again be 3.3 per cent and the US economy is projected to accelerate to 2.4 per cent (according to Goldman Sachs, to 2.8 per cent).

So, the doomsayers have been proved wrong for now about the impact of Trump tariffs- neither the world economy nor the US economy is collapsing. As Gillian Tett, FT commentator, puts it:

When Trump unleashed policy “rupture” a year ago, it sparked gloomy economic predictions. However, as the president crowed at Davos, the American economy is booming in 2026, due to a mixture of monetary, fiscal and regulatory stimulus.

Economist freaks out on India

Is India back in flavour- with the western media, if not with foreign investors? The Economist has as  many as four articles on India in its online edition- two on PM Modi, one on the Indian economy and a review of the book on the Indian economy by Arvind Subramaniam and Devesh Kapur. The tone is extremely favourable.

The title of the piece on the economy is telling: Rising giant- The Ascent of India's economy. The Economist lauds India's gdp growth of 7.4 per cent in a year in which it has been hit by a 50 per cent tariff on exports to US. The paper ascribes India's performance to three factors: luck, macroeconomic policy and structural reform.

India has been lucky to have had a second year of good monsoons which have boosted agricultural output and caused food prices to fall by 2.7 per cent in the past year. A low inflation deflation has boosted real gdp growth. Macroeconomic policy includes fiscal consolidation, a reduction in the Goods and Services tax and cuts in interest rates. Structural reforms comprise the reduction in labour codes from 29 to 4, financial regulation overhaul, removal of the cap of 100 per cent FDI on insurance and opening up of  nuclear power to the private sector. The government has signed three trade agreements: Britain, Oman and New Zealand. The Economist gives credit to Trump for spurring India's reforms.

The Economist says adversity has caused PM Modi to focus even more on economic reform and growth. It urges more reforms, some of the "big bang" sort that many economists have urged over the years but which the government has rightly eschewed:

The recent reforms are not enough. Some merely correct recent errors. Although India’s average tariff rate is drifting down, it is still higher than it was when Mr Modi first won power in 2014. Much-needed reforms to agriculture are still locked in a box marked “too hard”. So are changes to make it easier for companies to acquire land. India’s awful schools continue to waste hundreds of millions of young minds. Smog and traffic jams steal some of the boost India could gain from urbanisation. Unforced errors remain common: this month India’s Supreme Court alarmed foreign investors with a ruling that has thrown into confusion what tax they must pay on capital gains. 

Foreign commentators must understand that India will reform in its own way, with due regard for popular sentiment-  and this is an approach that has worked.