Pakistan Cannot Sustain Prolonged Hostilities With India, Financially (2025)

Should the current armed hostilities between India and Pakistan lead to a prolonged conflict, Pakistan will find it significantly more difficult to sustain it from an economic and financial perspective. India’s economy is about ten times larger than Pakistan if GDP is converted at purchasing-power exchange rates, and its structural economic growth rate is about twice as large. This provides India’s with a far larger economic base and economic resources to support a prolonged armed conflict.

> India is one of the fastest-growing emerging economies in the world with real GDP projected to average 6-7% in 2025-6, compared to IMF projections for Pakistan of 3-4%. The economic outlook for Pakistan is also much more fragile given Pakistan’s more fragile financial position.

> India’s economy is about 10 times larger than Pakistan if GDP is converted at purchasing-power exchange rates. India’s gross domestic product is set to reach $17.6 tr in 2025, compared to Pakistan’s $1.7 tr. By comparison, U.S. GDP at PPP exchange rates is projected to reach $40 tr.

Although both Pakistan and India have high levels of government debt, India’s is much better positioned to raise additional revenue or increase debt issuance than Pakistan, given it far greater financial flexibility in the event of a prolonged conflict. India’s much larger size also means that one percentage point increase in fiscal deficits allows India to finance ten times as much expenditure as Pakistan. Moreover, Pakistan has a narrower revenue and tax base, and its fiscal deficit is tangibly larger than India’s. India also benefits from higher structural economic growth, which provides it with greater spending and revenue flexibility. Finally, most India’s government debt is held by residents and is denominated in local currency, which significantly limits financial risks.

> India’s government debt exceeds 80% of GDP, which is very high by emerging market standards. The fiscal deficit is projected at a little less than 5% of GDP. Although Pakistan’s government debt ratio is lower, amounting to only 70% of GDP, the financial risks attaching to it are greater. The deficit is projected at 6-7% of GDP. Pakistan’s tax base is also smaller than India’s. India collects more than 20% of GDP of revenue, out of which more than 18% of GDP consist of taxes. Pakistan collects 15% of GDP, out of which 12-13% of GDP are tax revenues.

> Pakistan’s public sector is also far more dependent on external financing than India’s with Islamabad’s external amortization accounting for 50% of the country’s external financial needs in 2025 or 2% of GDP. By comparison, India’s government foreign-currency financing needs amount to a mere 0.3% of GDP. India also has more ready access to international private capital markets.

The picture is similar in terms of the two economies’ external financial position. Pakistan’s greater dependence on official financing also makes it more sensitive to foreign financial pressure, including pressure from its external creditors. This may lead Islamabad to face increased diplomatic pressure from its lenders, who are not to keen to provide financial support which, instead of going toward macro-stabilization, is spent on a costly armed conflict. In case of a prolonged conflict, Pakistan’s economic and financial outlook would like deteriorate to a point where Pakistan’s IMF program moves off-track. This would to a sharp decline in multilateral and likely in official bilateral lending, which Pakistan is highly dependent on. India faces far fewer external financial pressure points on account of its far more manageable external financing needs and its ability to tap private sector financing, if necessary. 

> India’s international financial position is quite manageable, Pakistan’s is very fragile. This is not surprising given that Pakistan is under IMF supervision considering significant balance-of-payments needs. Pakistan’s external financial position is highly dependent on multilateral and official bilateral financing as well as continued compliance with the IMF program. It was only the new government’s willingness to sign up to a new IMF program following last year’s election that helped Pakistan avoid a broader financial crisis. However, Pakistan foreign-exchange reserves are much lower than India’s in terms of import cover (and external financing requirements). Pakistani FX reserves cover only two months’ worth of imports, compared to India eight months.

> India’s external debt is less than 20% of GDP, compared to 30% of GDP. As such, the difference is not that significant. About 40% of Pakistan’s balance-of-payments financing needs are covered by official borrowing, which shows how dependent Pakistan is on the continued goodwill of official lenders. The Pakistani government, as opposed to India’s, has no access to international capital markets due to heightened sovereign credit risk. Pakistan’s credit rating is in the CCC range, compared to India’s, which is in the BBB range. India’s investment-trade compared to Pakistan sub-investment grade rating would allow it to access international capital markets if necessary. Pakistan does not have that option. India’s external financing flexibility is far greater than Pakistan’s.

Why U.S. Trade Policies Will Prove Very Disruptive, Particularly to Financially Distressed Developing Economies (2025)

America’s protectionist trade policy will prove economically and politically very disruptive to financially distressed developing economies, less so emerging economies, even if Washington decides not to follow through with its reciprocal tariff policy or lowers announced trade restrictions over time. US trade policy has created significant economic and financial uncertainty, which will increase economic and financial risks as well as weaken political stability risks, particularly in financially distressed, commodity export dependent developing economies. Developing economies that have significant bilateral trade surpluses with the United States face increased risks due to the higher reciprocal tariffs they will face once the temporary suspension expires in early July. Here is why:

First, higher across-the-board tariffs in the guise of 10% and additional reciprocal tariffs based on size of bilateral goods trade surplus will hurt the exports of emerging and developing economies. The greater their dependence on the U.S. market, the more they will suffer by way of reduced exports and lower foreign-currency revenues. Lower export revenues will lead to a growth-reducing import compressions, falling foreign-currency reserves or politically painful currency depreciation, or all of them combined. Many already financially distressed developing economies facing financing problems are at particular risk of financial instability.

Second, higher US tariffs, directly and indirectly, will also impact US and global economic growth due to higher U.S. import prices, lower exports by tariffed countries and a general decline in consumer and investor sentiment due to heightened uncertainty. Lower global economic growth is also likely to weigh on commodity prices. While lower energy prices may benefit selected emerging economies, such as Turkey or Egypt, developing economies generally depend on commodity exports, and deterioration of terms of trade will further depress export and foreign-currency revenues, particularly in commodity-dependent sub-Saharan Africa.

Third, to the extent that US tariffs lead to higher US inflation, they are likely to keep U.S. interest rates higher for longer, even in the context of slowing U.S. economic growth. Moreover, increased global investor risk aversion will make it more difficult, particularly for financially challenged countries to issue debt in international capital markets, while concessional borrowing also remains relatively, given higher risk-free U.S. interest rates.

Fourth, if increased global economic and financial uncertainty leads to a stronger dollar, this will further increase financial distress due to the higher financing costs in local currency terms. Contrary to the historical pattern, this time the dollar has in fact weakened in the wake of increased economic and financial uncertainty, at least it has done so in trade-weighted terms. Individual developing economies, however, are faced with currency depreciation and hence dollar appreciation.

Fifth, US protectionism will lead to trade diversion, meaning that countries that cannot export to the United States will seek to redirect exports to other markets. To the extent that emerging economies, for example, compete with Chinese manufacturers, domestic producers and the economy will be faced with increased competition from Chinese and other countries’ imports. This may be less of an issue for developing economies whose domestic industries typically compete less directly with Chinese or EU exports. But emerging markets may see increased imports and this may lead to increased trade restrictions targeting trade diversion, this raising the risk of further trade conflict.

All this means that as global growth weakens, interest rates stay higher than they would otherwise have done, export revenues decline and capital inflows fall, emerging and especially developing economies will face significant economic and financial headwinds. Many developing economies and some emerging economies are already in financial distress or at heightened risk of financial distress. The outlook for developing economies is further exacerbated by the reduction in US foreign aid. The adverse economic and financial development will force them to implement even more forceful, but politically controversial macroeconomic adjustment and reform, including a reduction of government spending, including subsidies, and an increase in taxes. If balance of payments pressure force countries to devalue their currencies, inflation and the cost of living will increase. All this has the potential to increase domestic pollical tensions and increases the risk of social protests in developing economies.

It remains to be seen whether to what extent and on whom tariffs will be imposed once suspension of reciprocal tariffs expires in early July. Countries running trade deficits with the United States will be better positioned than its competitors faced with higher reciprocal tariffs. To what extent they will be able to take advantage of this situation, however, depends not just on relative tariff levels but also in their export structure. A commodity-exporting country that faces lower reciprocal tariffs may find it difficult to take advantage of the decline of a manufacturing export from countries facing high U.S. tariffs. Moreover, Washington has imposed and will impose further sectoral tariffs, such as on steel and aluminum, autos, copper, lumber, critical minerals, pharmaceuticals, semiconductors and so on. As these sectors are generally exempt from reciprocal tariffs, countries that export these goods will not be able to take advantage of differential tariffs. 

Finally, the trade war during the first Trump administration led to the emergence of so-called connector economies that attracted trade and investment by (Chinese) companies seeking to circumvent U.S. trade restrictions on China. This time, only very few, if any countries will be able to take advantage of U.S. tariffs, as tariffs are much more broad-based and there is greater uncertainty as how long they will remain in place, which will make companies less willing to set up production facilities in connector economies. Washington is also more likely to take measures targeting connector economies.

Regardless, few, if any countries will be better off, as global macro impact will outweigh relative competitiveness gains. US trade policy is broadly negative for emerging and especially developing economies. Financial distressed countries, mostly in sub-Saharan Africa, but also IMF countries, such as Pakistan, Sri Lanka, Bangladesh, Egypt, will be forced to implement more forceful policy adjustments. This will prove politically contentions, particularly if accompanied by lower global growth, reduced capital flows and lower export revenues, and currency depreciation. 

Macroeconomic Stability Despite Structural Political Instability - The Case of Peru (2025)

Peru’s perennial political volatility has not prevented it from pursuing sound macroeconomic policies and maintaining financial stability, even though it has undoubtedly prevented it from realizing its full potential. Following a decade or so of very rapid economic growth from 2002-13 in the context of the global, China-induced commodity boom, Peru’s more recent economic performance has been middling in the context of unstable domestic politics and considerable regulatory and bureaucratic obstacles holding back private investment. Despite this unfavorable domestic context, successive governments have managed to mainta macroeconomic stability and to make substantial progress in terms of economic development and poverty reduction, allowing Peru to become an upper-middle income country comparable to, if slightly poorer than Brazil, Colombia and Mexico.

> In the ten years leading up to 2013, real GDP growth averaged 6.5%. Following the end of the China commodity boom and in the context of increased domestic political instability, real GDP growth more than halved, slowing to 2.5-3.0% today. In recent years, investment as a share of GDP has fallen to below 20%, which is consistent with medium-term economic growth 2-3%.

> Peru has been characterized by macroeconomic stability and a disciplined policy framework. Despite low levels of government revenue and a high commodity dependence, it managed to weather various global shocks without experiencing broader financial instability. An independent central bank, a sound financial sector and disciplined fiscal policies have translated into low inflation, avoidance of banking sector crises and low government debt. At just over 30% of GDP, government debt is very low (even though half of it is denominated in foreign currency). Peru also benefits from a solid external financial position. Its foreign-exchange reserves are very large, covering more than 11 months of imports. Its current account is close balance and fully financed by net foreign direct investment inflows.

> Peru’s commodity dependence is high. According to the WTO, fuel and mining account for more than 50% of total exports, while agricultural products account for an additional 20%. China is Peru’ largest export market, followed by the United States, accounting for 32% and 13%, respectively.

> In the context of rapid-to-fair economic growth over the past 25 years, Peru reduced its poverty rate from slightly less than 60% to less than 30% today. Extreme poverty, defined as living on less than $2.15 a day, declined from 17% to less than 6% during the same period. 

The short-term economic outlook is middling and global trade tensions represent a significant, if manageable risk, but a more stable political environment and more streamlined investment-related policies would help boost the medium-term economic outlook considerably. The short-term economic growth outlook is fair, but not exceptional with the IMF projecting economic growth of 2-3% over the next few years. Reliant on commodity exports, Peru, like many other Latin American economies, is highly sensitive to a decline in global commodity prices in the event of a greater-than-expected U.S. economic slowdown and even more so in the context of a broader global economic slowdown due to trade conflict. Structurally, however, Peru has significant potential to accelerate medium-term economic growth in view of increasing global demand for raw materials tied to green transition as well as countries seeking to gain access to important, critical raw materials in the context of geopolitical competition and international economic fragmentation. Greater political stability and a more forward-looking policy aimed at fast-tracking mining projects would help Peru unlock greater commodity and related infrastructure investment. Recent deregulation should go some way towards boosting the investment outlook. As during the aughties, higher investment would then lead to faster economic growth and higher government revenues, which would allow the government to pursue growth-enhancing investment policies in the context of macroeconomic discipline. Based on Peru’s recent historical experience, a combination of increased investment and increased government spending could help lift real GDP growth to 3-4%.

> The IMF forecasts real GDP growth of 2.6%this year, in line with the Fund’s medium-term projection of 2.3%. The IMF projects the investment ratio to remain below 20% of GDP over the medium term. This compares unfavorably to the almost decade and a half leading to COVID-19 when the ratio exceeded 20% of GDP and real GDP growth was closer to 4%.

> According to the IMF, $62 billion worth of mining investment projects have been stalled for several years now due to bureaucratic complexity and social conflicts. According to E&Y, Peru’s mineral reserves investment pipeline is worth $ 55 bn and foreign investor interest remains high, particularly related to copper, gold, and other essential minerals. This is equivalent to 20% of GDP.

> According to the Peruvian National Society of Mining, Petroleum, and Energy (SNMPE), between 2026 and 2028, new mining projects representing an investment commitment of USD 6.9 billion are expected to break ground, reinforcing Peru’s standing as a key mining hub. The bulk of the investment will be allocated to cooper (> 70%), gold (> 10%) and iron ore (9%).

> The mining sector accounts for 9% of GDP. Copper is the most important export product, followed by gold, zinc, iron and lead. Peru is also one of the leading producers of zinc, copper, silver, tin, lead and mercury. Peru sits on 10% of global copper, 4% of gold, 22% of silver, 9% of zinc and 5% of lead reserves, according to the US Geological Survey.