Kamal Ghorui
The resilience of the financial sector is essential for maintaining growth and inflation dynamics, but recent rises in collateral risks due to ongoing geopolitical risks threaten its stability. As a key player in the economy, the banking sector faces major challenges from interconnected geopolitical risks. The banking sector and the economy are mutually supporting and dependent, boosting each other’s growth. In a bank-driven economy, providing credit to productive sectors is crucial to sustain growth and foster a growth-oriented ecosystem.
The landscape of geopolitical risks began with the pace of the post-COVID-19 recovery phase, when the economy was slowly regaining stability. During this period, a series of geopolitical risks began to threaten the global economy, including the domestic economy. In the financial sector, banks’ role in managing these collateral risks is particularly significant for the productive sectors.
The Russia-Ukraine war (2022), the Israel-Hamas war/Gaza crisis (2023), the Red Sea disruptions by the Houthis of Yemen (2023), the Venezuelan crisis (2025), and the recent Israel-US-Iran armed conflict (2026) are among the ongoing geopolitical threats that branch out into multiple collateral risks with unknown/unmeasurable consequences.
The escalating conflict in Iran, which is targeting US-based assets and disrupting merchandise flow through the Strait of Hormuz, could lead to serious supply chain problems for many dependent economies. Their reported route to friendly nations by charging a passage fee could increase costs, pushing inflation higher due to increased collective input expenses.
The ongoing tariff war, delays in trade agreements, the polarization of the global order, and strained bilateral and diplomatic relationships have increased risks in the external sector. This has led to a slowdown in exports and rising import costs, widening the trade deficit and potentially impacting domestic fiscal deficits.
Amid geopolitical uncertainty, the Central Banks’ ongoing fight against inflation continues, and the direction of policy rates in Western economies remains in a stalemate, offering no clear clues to markets.
- Impact of geopolitical risks:
According to government estimates submitted to the Standing Committee on Finance testimony (report Mar 17), if crude oil remains at $130 per barrel for 2-3 quarters, it could slash GDP growth by 100 basis points, dropping it from 7.4 percent to 6.4 percent.
Additionally, CPI, already at a 10-month high of 3.2% in February 2026, could increase to 5.5%. The current account deficit (CAD) might expand to 3.2% of GDP, and the fiscal deficit could conclude higher at 5.6%. Despite external sector risks, CPI inflation is expected to stay in the upper part of its glide path, remaining below 6 percent.
In an evolving macroeconomic environment marked by risks, the banking sector’s constituents, particularly large borrowers, may face downside risks that could affect banks’ risk baskets. The steady FPI outflows and the depreciating INR, now at Rs. 94.61 per US$ on March 27, compounded by crude oil prices breaching US $ 120 per barrel/LPG supply disruptions, could increase borrowing costs, tone down private investments, and eventually impinge upon the growth potential. Even consumption expenditure could rise, further eroding the prospects of savings and slowing bank deposit growth.
Thus, the “triple whammy”—oil surge, market volatility, and shipping delays from the West Asia conflict—could increase risks to both bank borrowers and banks, compounding risks. As bank borrowers face rising costs, their repayment capacity may decline, increasing banks’ credit costs and further eroding asset quality.
Credit growth of 13.8% exceeds the deposit growth rate of 10.8% as of March 13, 2026, and the credit-to-deposit ratio has reached 83%. The shortfall in deposits is likely to elevate liquidity risks. As a result, the interest rates on certificates of deposit (CDs) have already reached 7.37 %. A rise in funding costs is set to erode banks’ net interest margins (NIM) in the coming quarters, exerting pressure on profitability. It may push up the MCLR, though the repo rate is expected to remain at 5.25 percent.
- Recasting risk management architecture:
In the face of rapidly increasing collateral and interconnected risks, banks’ risk management frameworks may not fully capture the nuances of geopolitical risks and their economic effects. Banking business risks can suddenly surge, leaving little room for manoeuvring unless proper action plans are in place to reduce them.
Banks should be proactive in building greater preparedness to manage risks that may require immediate action. Closer watch on data related to the special mention accounts (SMA), CRILC, downgrade trends of corporate credit, and conduct of loan accounts.
Managing upcoming risks will involve recalibrating the risk management framework to match the complexities of new streams of unknown collateral risk, whose impact may not be immediately measurable.
The market intelligence system in the risk management sector should be adjusted to better capture geopolitical and geoeconomic events, allowing it to understand, interpret, and assess their impact on specific asset and liability portfolios. A continuous risk impact analysis should help banks intervene and support the third line of defense in risk management by understanding the scope and severity of risks, enabling preventive measures.
Consortium leader banks should coordinate with other member banks to handhold large borrowers experiencing genuine stress amid temporary disruptions in the evolving situation. CMA data should be closely scrutinised to perceive the borrower stress. Enhanced CMA data can be collected to make credit control dashboards risk-event sensitive, with greater granularity on their impact on borrowers’ repayment capacity.
Developing a template for handholding with reciprocal conditionalities for stressed large borrowers, if any, considering long-term interests to prevent asset quality slippage. It is necessary to realise that the borrowers are as much at risk as the lenders, and understanding their pain points is a sine qua non for the stability of the credit portfolio. Wading through the crisis times collectively is necessary in the interest of all stakeholders.
A focused effort to support the MSME sector will be critical to protecting entrepreneurs at the bottom of the pyramid, on whom the livelihoods of millions of people depend. Given that this sector of borrowers is the lifeline of the economy and their export capacity is under stress, the monetary authorities may explore ways to relax the IRAC norms for a couple of upcoming quarters until geopolitical risks subside.
In addition to providing liquidity support, the RBI may consider providing medium-term funds through LTROs rolled out during pandemic times to protect the interests of stakeholders.
A collective, proactive risk management approach by all stakeholders in the financial sector, initiated at an appropriate scale, is essential to effectively handle geopolitical risks, minimize adverse impacts, and maintain growth. When prioritizing risk mitigation, long-term interests should outweigh short-term goals both in practice and principle.
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