With the new tariff rate of 50% on exports to the USA, a natural question to ask is how will the Indian economy be affected? Will the burden of tariffs primarily fall on the Indian exporter or the US consumer?
Gauging the Scale: Exports in the GDP Context
First, let’s look at how important this trade route is. In 2024, India’s GDP was $3.9 trillion, and exports to the US were $79.4 billion. Thus, exports to the US are approximately 2% of India’s GDP.
In the absolute worst-case scenario where exports to US stop altogether, India’s GDP declines by 2%. This is significant, but not a disaster. With current GDP growth of 7.8%, a 2% decline still means the economy grows reasonably well. But this is the worst-case scenario and is unlikely to occur. The actual outcome depends on how much exports decline.
The Crucial Role of Price Elasticity
The extent to which exports decline depends on how much the US consumer is willing to bear the higher cost of imported goods. At the end of 2024, total US monthly imports were $285 billion. As of the end of June 2024, total US monthly imports were $266 billion, a decline of 7%. Over the same period, the effective tariff rate faced by US consumers went from 2% to 9%. Thus, a 7% increase in the tariff rate is associated with a 7% decline in imports.
Potential Impact on Producers vs. Consumers
Thus, based on recent US consumer behavior, we can assume here that each percentage point increase in the tariff rate reduces imports by the same percentage amount. The effective tariff rate on Indian exports to the US is now 33% after the new duties have been imposed (this is because some goods are exempt from the 50% rate). Starting from an initial effective rate of 2%, this is a 31% increase.
This implies that Indian exports to the US should fall by 31% because of the tariff. I’ll caution that is a very rough estimate. It is difficult to extrapolate this one for one change to such a large amount. But let’s go ahead with this number for now. What does that imply about GDP growth?
If India’s exports to the US fall by 31%, this implies that GDP will decline by 0.6%. Thus, the overall effect on growth is significant, but modest.
Adjustments and Uncertainties
All this analysis is intended to capture the short-term effects. We’re assuming that consumers and firms don’t make material changes to their behavior. In the longer term, two other factors come into play. First, US consumers may find alternative suppliers for Indian imports. This could further reduce demand for Indian exports. Second, Indian exporters may find alternative buyers for their exports, which would offset this effect. Both factors take time to play out.
And of course, the biggest uncertainty is whether the 50% tariff rate stays in place. It is likely that negotiations between Indian and US over a trade agreement will continue over the next few months. Tarriff rates between the US and most other countries have been extremely unpredictable this year. Where we end up is anyone’s guess.
Asad Dossani is an assistant professor of finance at Colorado State University. His research covers derivatives, forecasting, monetary policy, currencies, and commodities. He has a PhD in Economics. He has previously worked as a research analyst at Equitymaster, and as a financial analyst at Deutsche Bank.
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