Budget Pays Price for India’s Leverage: Economic Cost of Geopolitics

By The Squirrels Bureau

India’s geopolitical environment is more complex and economically consequential than at any point since the end of the Cold War. Border tensions, instability in neighbouring states, Indo-Pacific militarisation, and intensifying great-power rivalry are no longer abstract foreign policy issues. They shape fiscal priorities, industrial strategy, energy planning, and trade policy.

The Union Budget 2026-27 reflects this convergence of economics and strategy. Though formally presented as a growth-oriented and fiscally disciplined exercise, it also functions as a geopolitical budget. Its emphasis on self-reliance, infrastructure resilience, energy security, and manufacturing competitiveness is designed to insulate the economy from external shocks while strengthening strategic autonomy. With a projected fiscal deficit of 4.3% of GDP and capital expenditure of ₹12.2 lakh crore, the government is attempting to spend heavily where security and resilience demand it while preserving macroeconomic credibility.

The organising premise is that geopolitics now imposes a permanent structural cost on economic management. The policy challenge is to convert this cost into a long-term national capability rather than a recurrent fiscal strain.

Tariff-Proofing the Economy

A defining feature of the budget is its attempt to “tariff-proof” India’s economy against the 50% tariffs imposed by the second Donald Trump administration (2024–28). The response marks a shift away from reliance on external dispute settlement towards domestic resilience, manufacturing competitiveness, and trade diversification. The assumption is that protectionism in advanced economies is no longer cyclical but systemic. Tariffs are therefore treated as enduring constraints rather than temporary shocks.

Central to this approach is a new ₹10,000 crore SME Growth Fund aimed at creating “future champions” and easing capital stress among small firms. This matters because micro, small, and medium enterprises account for about 44% of India’s exports. Improving access to patient capital is intended to prevent erosion of the export base as global supply chains become more concentrated and politically sensitive.

The budget also proposes merging Special Economic Zones and other export promotion schemes into Unified Export and Manufacturing Zones to simplify compliance, integrate production with logistics, and reduce policy fragmentation. The objective is to raise domestic value addition and embed Indian firms more deeply into global value chains. A “customs duty revolution” complements this architecture. Rationalisation of basic duty slabs and zero duty on selected industrial inputs are designed to compress manufacturing costs, offsetting part of the disadvantage created by foreign tariffs.

Sectoral targeting reinforces the strategy. The textile industry, which faces ad valorem tariffs of 26–27% in the US market, receives special support to pursue alternative export destinations and upgrade product quality rather than relying on politically unlikely tariff rollbacks. These measures are reinforced by capital spending of ₹12.2 trillion, or about 3.1% of GDP. Improved roads, ports, rail corridors, and logistics parks lower freight costs and delivery times, effectively functioning as an internal subsidy for exporters. In an era of trade barriers, infrastructure quality itself becomes a competitive tool.

Trade diversification adds another layer of protection. India is leveraging a recently concluded Free Trade Agreement with the European Union and exploring deals with Canada, the UK, and Oman to reduce reliance on the US market. The Economic Survey 2026 notes that an undervalued rupee has cushioned the impact of higher US tariffs by keeping Indian exports relatively affordable. While exchange-rate support cannot replace structural competitiveness, it provides short-term adjustment space.

Sitharaman has described this posture as calibrated openness. India, she argues, will remain “deeply integrated with global markets” while expanding domestic manufacturing capacity across seven strategic sectors. Integration is being redefined as participation in multiple overlapping networks rather than dependence on a narrow set of partners. Crucially, tariff-proofing is pursued alongside strict fiscal controls. The signal to investors is that geopolitical turbulence will not be allowed to morph into macroeconomic instability. Tariff-proofing thus becomes the economic analogue of strategic autonomy.

China–Pakistan Axis and Permanent Vigilance

Prolonged standoffs along the Line of Actual Control and the prospect of a two-front contingency involving China and Pakistan carry heavy fiscal implications. Defence spending competes with social priorities, while border uncertainty discourages private investment and raises logistics costs. India’s dependence on Chinese imports intensifies this vulnerability. Annual imports exceeding $100 billion—particularly electronics, machinery, and pharmaceutical inputs—expose manufacturing to supply disruptions and price shocks, risking inflation, wider trade deficits, and weaker export competitiveness.

The budget increases defence allocation to ₹7.85 lakh crore, up 15% year-on-year, including ₹2.19 lakh crore for capital outlay focused on modernisation, aircraft, aero engines, and weapon systems. The objective is not only higher spending but a shift towards domestically produced platforms.

Border infrastructure forms the second pillar. Expanded funding for roads, highways, and strategic connectivity in Ladakh and Arunachal Pradesh is meant to enable rapid military mobilisation and integrate frontier regions into national markets. Over time, improved connectivity can stimulate tourism, small-scale industry, and services, partially offsetting the opportunity cost of higher defence outlays. Support for rare-earth corridors and critical mineral supply chains addresses another choke point. China’s dominance in these materials affects both civilian electronics and defence manufacturing. Domestic extraction and processing capacity, even at a higher initial cost, reduces strategic exposure.

Neighbourhood Instability and Economic Influence

Political volatility in South Asia and the Indian Ocean neighbourhood increasingly shapes India’s commercial environment. Chinese Belt and Road projects in countries such as the Maldives and Bangladesh reconfigure trade routes, port access, and investment flows. Bangladesh alone absorbs roughly $15 billion of Indian exports annually. Disruptions would reverberate across textiles, consumer goods, and intermediate manufacturing supply chains. Tourism, remittances, and cross-border energy projects are similarly sensitive.

The budget’s external affairs allocations support a strategy of economic diplomacy. Financing for infrastructure, connectivity, and capacity-building projects in neighbouring states seeks to offer alternatives to Chinese lending and preserve India’s commercial space. Domestically, MSME support, including the ₹10,000 crore SME Growth Fund, strengthens the competitiveness of firms targeting regional markets. Influence is more sustainable when backed by commercially viable enterprises rather than aid alone. Maritime development—through new national waterways and a ship-repair ecosystem—reinforces India’s position as a regional trading hub. Control of sea lanes is therefore both a naval and economic concern.

Indo-Pacific Militarisation and Trade Exposure

About 90% of India’s trade by volume moves by sea, and a large share of its energy imports transit contested waters in the Indo-Pacific and Indian Ocean Region. Militarisation increases insurance costs, lengthens shipping routes, and heightens uncertainty. Naval modernisation and customs duty exemptions for defence and aviation components reflect awareness of this exposure. But resilience also depends on inland logistics.

Seven high-speed rail corridors and expanded dedicated freight corridors, including the Dankuni–Surat route, aim to reduce bottlenecks, lower costs, and shorten delivery times. A diversified domestic logistics network reduces dependence on any single port or corridor vulnerable in a crisis. Energy security is the parallel pillar. Extensions of customs exemptions for nuclear power projects until 2035, incentives for battery storage, and support for renewable manufacturing aim to reduce reliance on imported fossil fuels, cushioning the economy from oil price spikes and aligning with Quad clean-energy cooperation.

Great-Power Rivalry and the Cost of Multi-Alignment

India’s strategic autonomy rests on maintaining workable relations with mutually antagonistic blocs. This flexibility carries economic costs. Sanctions on Russia complicate defence procurement and spares supply. Tensions with the US and EU over trade, data governance, and industrial subsidies affect technology-intensive sectors. The Ukraine war has pushed up global energy and fertiliser prices, adding an estimated 0.5–1 percentage point to domestic inflation.

The budget responds with deeper self-reliance. Allocations of ₹10,000 crore for biopharma, incentives for critical mineral exploration, and exemptions for lithium-ion cells and solar inputs aim to shorten supply chains. Trade diversification, anchored in FTAs with the EU and others, seeks to offset protectionism. Digital and artificial intelligence initiatives, including Bharat-VISTAAR, are framed as instruments of technological sovereignty, enabling selective collaboration without dependence. Higher upfront costs are thus accepted in exchange for lower long-term vulnerability.

Carbon Borders and Green Competitiveness

Climate policy has become a trade instrument. The EU’s Carbon Border Adjustment Mechanism could impose effective tariffs of 20–35% on Indian exports of steel, aluminium, and other carbon-intensive products, potentially costing $1–2 billion annually.

Green manufacturing and energy transition measures, therefore, function as a defensive trade policy. Incentives for biogas blending, renewable component manufacturing, and alignment with global sustainability standards aim to preserve market access while positioning Indian firms in green value chains. Chemical parks, textiles support schemes, and broader manufacturing incentives seek to raise productivity and lower unit costs, helping exporters absorb or avoid future carbon levies.

Internal Security, Cyber Risk, and the Digital Economy

Security threats impose economic penalties. Terrorism and cross-border infiltration raise insurance costs, deter investment, and require sustained operational spending. Cybercrime and ransomware threaten a digital economy projected to reach $1 trillion by 2030, with potential annual losses of $10–15 billion. The budget increases defence revenue expenditure for operations, including counter-terrorism, by 17% and allocates ₹782 crore for cybersecurity projects to protect critical digital infrastructure — a price for maintaining a viable investment climate.

Strategic Arithmetic

The budget treats capital expenditure, self-reliance in strategic sectors, and energy and manufacturing resilience as instruments of national security as much as of development. The main risk is execution. High outlays yield strategic returns only if projects are completed on time, with quality, and embedded in coherent industrial ecosystems. Otherwise, resilience spending becomes deadweight.

The government is betting that sustained 7%+ GDP growth will generate the revenues needed to sustain this posture without destabilising public finances. India has entered an era in which budgeting cannot be separated from geopolitics. The Union Budget 2026-27 is an attempt to price power, security, and autonomy into the country’s economic future.