India’s economic growth is expected to slow to 6.7 per cent year-on-year in fiscal 2026/27 from 7.6 per cent in FY26, as higher crude oil prices linked to the West Asia conflict and the likely impact of El Niño conditions on agriculture dampen demand and raise inflationary pressures, according to a report by India Ratings and Research.
The agency said persistent geopolitical uncertainty, elevated fuel and food prices, weaker capital inflows and a possible deferment of government capital expenditure could all weigh on growth in the coming fiscal year.
“Major headwinds include geopolitical developments, particularly the West Asia conflict, high headline inflation, a depreciated currency from weak capital inflows, weaker-than-expected capex especially by the government to reduce fiscal risks, weak global trade growth, strong FY26 growth (base effect), low industrial production as measured by the Index of Industrial Production, and notably, the likely El Niño weather pattern from mid-2026,” Megha Arora, economist and director for public finance at the agency, said in the report.
The report estimated that every USD10-per-barrel increase in crude oil prices could shave 44 basis points off GDP growth, while a 10 per cent reduction in government capital expenditure could reduce growth to 6.0 per cent.
Crude Oil Assumptions Drive Forecast
India Ratings based its forecast on crude oil averaging USD110 per barrel in the first quarter of FY27, USD100 in the second quarter, USD90 in the third and USD80 in the fourth quarter.
The agency’s baseline scenario assumes average oil prices of USD95 per barrel for the year. However, if crude prices average USD120 per barrel, India’s GDP growth could fall sharply to 5.6 per cent, it said.
India, the world’s third-largest crude importer, remains vulnerable to swings in global energy prices because of its heavy import dependence. The report estimated that with a one-third pass-through of higher crude prices to consumers, retail inflation could rise by 93 basis points and the current account deficit-to-GDP ratio by 43 basis points.
The government has already responded to higher energy prices by raising retail fuel prices several times in recent months. Petrol and diesel prices were increased by Rs 3 per litre each on May 15, while compressed natural gas prices rose by Rs 2 per kilogramme.
The report noted that premium petrol and diesel, liquefied petroleum gas, aviation turbine fuel and industrial diesel prices had also been raised during March and April 2026. At the same time, the government cut excise duty on petrol and diesel by Rs 10 per litre in March to soften the impact on consumers.
El Niño Threatens Agriculture Output
The agency warned that the likely emergence of El Niño weather conditions from mid-2026 could weaken agricultural output and add to food inflation.
India Ratings assumed rainfall at 92 per cent of the long-period average in FY27, with agricultural gross value added expected to grow 2.1 per cent year-on-year.
While the report said India’s vulnerability to deficient rainfall had reduced over the decades due to higher irrigation coverage, improved agricultural extension services and a growing share of services in the economy, it cautioned that the combined effect of high crude prices and weak monsoon conditions could still significantly hurt growth.
“If the spatial rainfall spread during June-September is closer to the normal rainfall pattern, the risk to the agricultural GVA could be lower,” the report said.
Food inflation risks have already begun emerging. Milk brands Amul and Mother Dairy increased milk prices by Rs 2 per litre each from May 14.
Fiscal Pressures And Capex Risks
The report said fiscal pressures could intensify because of higher subsidies, reduced fuel taxes and support measures aimed at offsetting the economic impact of the West Asia crisis and El Niño.
India Ratings noted that NITI Aayog had advised the government to defer major construction projects for two years as part of austerity measures. If implemented, a 10 per cent reduction in combined union and state government capital expenditure could slow gross fixed capital formation growth to 5.2 per cent and reduce GDP growth to 6.0 per cent.
The agency nevertheless said the government was likely to rely more on credit support than direct fiscal spending to contain the impact on public finances.
The Union Cabinet has approved the Emergency Credit Line Guarantee Scheme 5.0 for both MSMEs and non-MSMEs, with targeted credit flow of Rs 2.55 trillion, including Rs 50 billion earmarked for airlines.
India Ratings said the union government’s fiscal deficit target of 4.3 per cent of GDP for FY27 could prove difficult to achieve because of increased spending pressures and weaker revenues.
Inflation, Bond Yields And Rupee Seen Under Pressure
India Ratings projected consumer price inflation at 4.4 per cent and wholesale price inflation at 5.0 per cent in FY27, compared with 2.1 per cent and 0.7 per cent respectively in FY26.
The agency said inflation would remain within the Reserve Bank of India tolerance band of 2-6 per cent despite rising food and fuel prices.
Wholesale inflation had already surged to a 42-month high of 8.3 per cent in May 2026, reflecting the rapid pass-through of global commodity prices, the report said.
India Ratings also forecast elevated government bond yields and continued volatility in banking system liquidity. The 10-year government bond yield is expected to remain near 7 per cent in the first half of FY27 before rising by around 30 basis points in the second half if inflation and borrowing requirements increase further.
The report projected the rupee would weaken 6.7 per cent year-on-year to average Rs 94.28 against the dollar in FY27, compared with Rs 88.35 in FY26, due to weak capital inflows and worsening external balances.
India’s trade deficit is expected to widen to USD421.2 billion in FY27 from USD345.2 billion in FY26, while the external balance measured by current account and net foreign direct investment is forecast to deteriorate to negative 1.9 per cent of GDP.
The agency said recent free trade agreements with Oman, the UK, New Zealand and the European Union could help support exports, though uncertainty over US tariff arrangements remained a risk for manufacturers and investors. |
