Looming US tariffs could prove to be a 'good crisis' for India

“Never let a good crisis go to waste” is a quip that the Indian government appears to have taken seriously, having announced on Saturday evening that it has agreed on a broad framework with the US for negotiating a bilateral trade agreement later this year.

In February, US President Donald Trump had said he would impose reciprocal tariffs on imports from several countries, most notably India, unless their governments lower tariffs on American goods by April 2. Mr Trump’s plan to trim America’s $1.2 trillion trade deficit with the rest of the world left New Delhi with a choice to make: either let Washington impose tariffs on all Indian goods, leaving American consumers to bear the extra cost and thereby suppressing demand for these goods, or reduce tariffs on US products and risk them flooding the Indian market, conceivably outperforming domestically produced items.

Both scenarios could prove challenging for Indian manufacturers. Mr Trump’s reciprocal tariffs would set various sectors back, particularly automobiles, chemicals, pharmaceuticals and textiles, with the country standing to lose up to $7 billion annually, according to the BBC.

But it is the fear of the second scenario that has, until now, guided the Indian government's protectionist policies. This explains why, in 2019, it pulled out of talks to join the Regional Comprehensive Economic Partnership, a free-trade agreement among 15 countries in the Asia-Pacific. It also explains why Mr Trump has often called India the “tariff king”. (He isn’t off the mark on this: World Trade Organisation data suggests India’s average tariff on imports is 12 per cent, while the US charges 2.2 per cent and China 3 per cent.)

Previous US administrations have overlooked the country’s trade deficit with India, which currently stands at $45.6 billion, in large part because of the value New Delhi brings to the table as a regional power capable of balancing the rise of America’s biggest global rival: China. Mr Trump himself chose not to rock the boat during his first term.

But having returned to power with a bigger mandate, the US President is determined to remake American foreign policy, particularly foreign economic policy, by adopting a unilateral and transactional approach to dealing with friends and foes alike. Mr Trump has long believed that tariffs are the most effective tool at his disposal to strengthen the competitiveness of American exports.

Whether or not he is right in the long term, for now the rest of the world has gone into panic mode. But unlike China, Canada and the EU, which have resorted to retaliation, India has chosen to be proactive.

Through Foreign Minister S Jaishankar and Commerce Minister Piyush Goyal, its government has held hectic talks with Trump administration officials in recent weeks. Mr Goyal even made an unscheduled visit to Washington in March to resume negotiations for a trade deal. Discussions were ongoing for the past several days in a bid to secure tariff exemptions for some Indian goods. On Saturday, India’s Commerce Ministry confirmed that the two governments discussed areas in which to enhance market access, reduce trade barriers and integrate supply chains.

Despite these talks, it is unlikely that Mr Trump will exempt India from the list of countries he wants to hit with reciprocal tariffs. Either way, the government of Prime Minister Narendra Modi has already taken steps to open up India’s market. It has lowered import duties on some US goods, with more cuts expected in the coming months. The tariff threat might also have given New Delhi additional impetus to speed up talks with the UK, EU and New Zealand with the aim of securing trade deals similar to the Comprehensive Economic Partnership Agreement it signed with the UAE in 2022.

To accompany these steps, the Indian government needs to put in place policies to further expand the country's manufacturing base and enhance its competitiveness, particularly in the short-to-medium term, given that it continues to have a disproportionately large pool of unskilled workers. This would complement the “China Plus One” strategy that several countries and companies around the world have adopted in recent years, with a view to diversify global supply chains and hedge against Mr Trump’s trade war with Beijing.

But as New Delhi engages in difficult negotiations with other countries, it needs to bring the Indian people along with it. There are signs that it is doing just that.

After his visit to the US, Mr Goyal called on Indian exporters to “come out of their protectionist mindset” and encouraged them “to be bold and ready to deal with the world from a position of strength and self-confidence”. This is an important point. Competition, especially foreign competition, is an important driver for domestic industries to improve their own performance over the long term. Rebuilding the manufacturing sector towards this end is something India desperately needs to do right now, to help boost its sluggish growth rate of 6.5 per cent and, more importantly, to tackle its high youth unemployment of 10.2 per cent.

To convince manufacturers, policymakers can point to the cards India has to play with in a rapidly changing world. There are historical precedents for this. Japanese politicians are said to have pointed to “gaiatsu”, or “external pressure” to push through domestically unpopular reforms. But India has its own recent history to learn from, when it used a “good crisis” more than three decades ago to steer its economic ship in a new, and prosperous, direction.

In 1991, a cash-strapped Indian government famously embarked on large-scale (and long-overdue) economic reforms following an acute balance-of-payments crisis.

These reforms proved to be far-reaching. Geared primarily towards privatisation – including abolishing most trade licences, inviting foreign investment in the stock market and fixing the banking sector – they spurred entrepreneurship and high levels of employment. This paradigm shift, from a socialist system to a capitalist one, helped lift hundreds of millions out of poverty and transform what was considered to be a "third-world country” into a middle-income power.

Today, with the world’s fifth-largest economy fast approaching another sharp bend in the road in the form of America’s tariff threat, policy and media circles across the country have been left wondering if India can once again turn adversity into opportunity by enacting a new set of difficult – but necessary – reforms.

It seems that, as of now, the Modi government is acting on its own “1991 moment”.