This level of tariff is indubitably concerning, as it makes numerous Indian MSME businesses, especially those exporting textile, leather goods, small components, jewelry, carpets etc., incompetitive; and in many cases poses an existential threat to the exporting entities. For several MSME the US market contributes a substantial part of their revenue; and these entities were enjoying some advantage over competitors due to lower MFN tariffs. They not only lose this advantage, but become materially incompetitive due to these tariffs.
These reciprocal and penal tariffs, in my view, tantamount to covert economic sanctions on India by the US. The reason cited for the penal tariffs is continued import of crude oil by Indian oil companies from Russia. The Indian government has clearly communicated to the US administration that this reason is not valid, as several other countries, including the EU, which also import crude from Russia are not subject to penal tariffs.
The situation is still evolving as the trade negotiations with the US are still under way, and these high tariffs are not permanent as of now. Nonetheless, the probability of these tariffs staying for a longer term is not zero. It is therefore important for everyone, including businesses, policymakers, and investors, to script a worse-case scenario for themselves and test their preparedness for such a scenario.
Notably, the present tariff action of the US administration is neither a surprise nor an isolated act of aggression against India. In the past 7-8 years there has been a pattern in the evolution of Indo-US relationships. Particularly since 2018, the US administration has been actively looking to base the mutual relationship on equality. President Trump seeking to rebase the relationship seeking full reciprocity from India on key economic, trade and technology issues is just a continuation of the evolving pattern. (Read more on this New chapter in Indo-US relations).
It is also pertinent to note that since 2018, the US has withdrawn the benefits under Generalized System of Preferences (GSP); materially tightened scrutiny on Indian IT and pharma compliance; persistently stalled progress on a bilateral trade deal; virtually downgraded the diplomatic status through exceptional delay in appointing an Ambassador to India (Indian mission of the US headed by an interim Chargé d'affaires during January 2021-March 2023 and January 2025 till present day; see details) and causing inordinate delays in grant of VISA appointments to Indians; disgracefully deported illegal Indian immigrants. These are some of the pointers towards the evolving pattern of Indo-US relations since 2018. The tariff spike is simply an extension of this pattern.
Some entrepreneurs, politicians, investors and thought leaders have called for a 1991 (balance of payment crisis) and 1998 like (economic sanctions post nuclear test) response to the situation. They have suggested that the government should use this opportunity to initiate some major reforms, like 1991 and 1998, to further strengthen the resilience of the Indian economy. Many of them see the current situation equivalent to economic sanction (through trade route) and suggest an appropriate response accordingly.
In my view, the Indian economy urgently needs several major reforms, regardless of the outcome of the present trade conflict with the US. The current situation does provide a catalyst and a valid excuse to implement these reforms that may cause some short-term pain to various stakeholders.
In the next few posts, I shall discuss my thoughts on the areas that need urgent reforms and changes, if any, required in the investment strategy in light of the latest US tariffs. Before that it is important to take note of the 1998 crisis, and how the situation in 2025 may be different.
Operation Shakti triggered global sanctions on India
India had maintained a policy of nuclear ambiguity since its first nuclear test in 1974 (Smiling Buddha). Over the years, global non-proliferation efforts intensified, particularly after the Cold War. On May 11 and 13, 1998, India conducted five underground nuclear tests in Pokhran, Rajasthan, codenamed Operation Shakti.
Operation Shakti, triggered a wave of economic sanctions from the US, Japan, Canada, the EU, and international financial institutions like World Bank, IMF and ADB. Notably, Russia, France, and Israel did not participate in sanctions. China issued strong condemnation but refrained from economic penalties.
Under the sanction, most of the non-humanitarian financial aid was suspended. Export of military and dual use technology to India was banned. All defense cooperation and technology transfer treaties were suspended. A freeze was put on loan guarantees and financial assistance. Lending to India by the World Bank, IMF, and ADB temporarily halted/slowed.
The extant government decided to take the global pressure head-on. It steadfastly refused to sign the Comprehensive Test Ban Treaty (CTBT) under pressure. The government also launched an aggressive diplomatic campaign to explain its position, emphasizing strategic necessity and national security concerns. Most importantly, the government unleashed several structural reforms to strengthen the domestic economy. Notably, the government divested its monopoly over core sectors like coal, power, telecom, oil & gas, civil aviation, etc. An ambitious national highway development plan (NHDP) was launched. Several fiscal incentives were provided to promote exports. A special economic zone (SEZ) policy was implemented. Several tax and other concessions were offered to the ITeS sector.
Consequently, the impact of the sanction remained contained. Reforms attracted material private capital flows from global investors. Turbulence in the market was short lived, and within a year the market scaled new highs. Sensex rose from ~3,300 in Jan 1999 to ~5,100 by March 2000, a jump of 50% in 15months.
Overall, the impact of sanctions was marginal.
The sanctions were lifted within two years as India materially helped the world in managing the Y2K crisis; unilaterally announced a “no first use” nuclear doctrine.
Situation in 2025 is different from 1998
The present situation is however materially different from the 1998 situation. First, the present trade action is limited to the US, unlike 1998 when a number of trade partners had imposed restrictions. Second, the Indian economy is now much stronger and materially more integrated into the global economy as compared to 1998. The impact of trade restrictions on the local economy, therefore, could be materially higher. Third, the political situation in India is much more stable now as compared to 1998, when the coalition was more fragile. Fourth, India has strengthened its global strategic position significantly in the past 27years. With several multilateral alliances (G-20, BRICS, QUAD etc.) and bilateral treaties, India has much stronger support from its global partners as compared to 1998.
Also read
New chapter in Indo-US relations
Speculating Trump’s second term
…to continue tomorrow