Why economy continues to pose challenges for Modi govt

GDP growth isn't spurring widespread wellbeing, FDI and forex are under stress even as crude oil volatility keeps inflation clouds hoveringThe Narendra Modi government had to face youth ire over examination irregularities, but there are deeper issues in the Indian economy that his dispensation will have to grapple with. Here are a few of them that need to be addressed.Growth and private investmentWhat has perplexed many is why the economy, which has clocked over 7 per cent growth, failed to offer a sense of across-the-board wellbeing and prosperity. Private investment has lagged for several years despite the Centre’s efforts to set off the investment cycle through big-time public funding.India has not been able to take advantage of its demographic dividend, but rather has been struggling to provide jobs to the roughly 12 million that enter the job market every year. Nor has it been able to move the needle on manufacturing, where its share as a percentage of the GDP has been stuck at around 16-17 per cent for several years.“Either the GDP numbers do not reflect the true state of the economy or corporations for some reason are overly pessimistic and not investing,” Raghuram Rajan, former Reserve Bank of India (RBI) governor, told India Today TV earlier this year. “It is not clear how you can have an economy growing northwards of 7 per cent as the GDP numbers say and corporate investment really so tepid.” With private investment failing to kick in and West Asia war clouds refusing to dispel, any hope of the GDP growing into higher single digits or even double digits is extremely bleak. On the other hand, the economy may de-grow to below the 7 per cent mark in FY27 (RBI puts this at 6.6 per cent).Falling net FDI and FPI flightIt is not just domestic investment. Net foreign direct investment (FDI) has been on the downslide, too. India had gross FDI inflows of $94.53 billion in FY26, compared to $80.6 billion in FY25. However, repatriation, or MNCs taking profits earned in India back to their home countries, combined with Indian companies investing more abroad have resulted in the net FDI for FY26 dwindling to just $7.65 billion. In FY25, the situation was worse, with net FDI plunging below $1 billion. These numbers compare poorly with the $27-28 billion net FDI seen in FY23 and FY24. Cloud over US trade dealThe Trump tariffs (at the earlier 50 per cent, which combined a 25 per cent reciprocal duty and a 25 per cent penalty over Russian oil purchases) had a debilitating impact on Indian exporters for much of the previous fiscal. India has said it would continue engaging with the US to conclude a bilateral trade agreement, after Washington imposed a 10 per cent tariff on imports from India under new trade measures.Crude oil painThe war has been a big drag on the economy in many ways than one. India imports from the Middle East nearly half its crude oil for refining purposes, 60 per cent of its natural gas that fuels vehicles and industries, and 90 per cent of its liquefied petroleum gas used in homes and hotels. Two-thirds of India’s urea imports are from the region. While the closure of the Strait of Hormuz during the US-Iran conflict had choked supplies to India, attacks by Houthi rebels on Saudi Arabian oil installations along the Red Sea coast has affected shipping traffic through the alternative Bab el-Mandeb Strait.On July 23, Brent crude had hit the $100 a barrel mark again since May, and most analysts forecast it remaining in the $80 to $85 range this fiscal, as much as 15 per cent higher than the previous fiscal. At some point, the government will need to address the issue of high fuel prices before it balloons into a large-scale resentment against it.The inflation threatThe Centre had hiked fuel prices multiple times during the war, leading to a cumulative Rs 7.50 per litre rise in both petrol and diesel prices, and with crude oil prices continuing to be volatile, it will be in no hurry to reverse the hikes. Higher fuel prices have a cascading impact on the economy, hiking input costs that subsequently make goods and services costlier. Combined with higher food inflation, this has led to the sharpest rise in retail inflation in 18 months this June.Retail inflation rose to 4.38 per cent that month, up from 3.93 per cent in May. This was the first time since December 2024 that retail inflation crossed the lower end of the RBI’s inflation target band of 4-6 per cent. Food inflation was 5.32 per cent in June compared to 4.78 per cent in May. The RBI has forecast inflation to remain above the 5 per cent mark in FY27. “The first quarter results of 300 companies show that while their revenues have gone up in a robust manner, the profits have not increased in tandem. This means the input costs of these companies have risen, but they are not able to pass it on to consumers,” said Madan Sabnavis, chief economist with Bank of Baroda. But it won’t be long before companies transmit the higher costs to buyers.Rupee at new lowsThe West Asia war had also been putting pressure on the rupee, which fell to nearly 97 to the dollar on May 20, although it has recovered since, and on July 31, was at 95.34 to the dollar. The rising cost of India’s imports during the war widened the current account deficit (the difference in the value of the country’s exports and imports) while falling net FDI and an increased outflow of foreign portfolio investments impacted the capital account.Foreign investors have pulled more than $35 billion (Rs 3.3 lakh crore) out of Indian equities since the start of the West Asia war. These have cumulatively put pressure on India’s balance of payments (BoP), with the BoP deficit widening to $30.8 billion in FY26, compared to a deficit of $5 billion in FY25 and a surplus of $63.7 billion in FY24, as per RBI data.Forex pressureThe issues on the BoP front hit the spotlight after Prime Minister Narendra called upon citizens to curb spending on fuel, gold and foreign travel, among others, to reduce outflow of money. He invoked life in the pandemic years to raise red flags on an economy perched precariously on the edge of a stagflation cliff, marked by high inflation and slowing growth. RBI, meanwhile, drew heavily on its reserves to shore up the rupee, which caused the national forex stockpile to fall from an all-time high of $728.5 billion in February 2026 to around $676.2 billion by late July 2026.Sabnavis said the big areas of focus for the government in light of the West Asia war were agriculture, MSMEs, environment and alternative energy. In agriculture, the thrust should be on increasing productivity and value added products, reducing wastage and increasing exports, making the sector stronger and more resilient to the vagaries of climate.For MSMEs, while the present focus has been on providing support in the form of credit guarantees and Mudra loans, the move should be on reforms that make them more competitive on the world stage. In both these segments, the Centre should look at how it can leverage the free trade agreements it has entered into with the UK and the European Union. Also, a balance has to be struck between environment and development. Similarly, alternative energy sources should be developed on a larger scale in order to reduce the country’s dependence on imported fuel. Subscribe to India Today Magazine- EndsPublished By: Akshita JollyPublished On: Aug 3, 2026 18:13 IST