US President Donald Trump’s frequent claims about stopping the conflict between India and Pakistan, which he believes could have gone nuclear, show that he wants to go down in history as a peacemaker. Interestingly, Pakistan has nominated him for the Nobel Peace Prize and has managed a much-favoured treatment from the US. In contrast, India’s steadfast denial of Trump’s role in stopping the four-day conflict seems to have irked Trump.

Now, Peter Navarro, Trump’s trade advisor, has quite irresponsibly said that the Russia-Ukraine conflict is actually “Modi’s war”, as India is funding it through Russian oil purchases. Trump’s punitive tariffs of 25 per cent for buying Russian oil, on top of the reciprocal tariffs of 25 per cent, could be only the beginning of the punishment. The White House is already talking about cutting down on H-1B visas, and some senators have even described these as a “scam”. India is the biggest beneficiary of H-1B visas, with an almost 70 per cent share. With high tariffs of 50 per cent, Indian exports to the US are going to suffer massive losses — they could be around $40-50 billion. While a federal appeals court ruled on August 29 that the President overstepped his powers in imposing the tariffs, enforcement of the order is on hold till mid-October, giving the administration time to appeal to the US Supreme Court. And if Trump doubles down on H-1B visas, the losses could be much higher. So, India has many stakes in its relationship with the US.

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Prime Minister Narendra Modi has stood his ground so far. He told the nation that he is ready to suffer, but will not compromise. However, the EU, Japan, and South Korea have already made deals. China is the only country that has withstood Trump’s pressure tactics so far and even retaliated through its monopoly over rare earth minerals. India does not have that leverage. The Indian economy is less than one-seventh of the US economy. The only way to escape being crushed during this power play is to be extremely agile and smart.

Most economists outside Trump’s circle opine that the US will soon hit stagflation — high inflation and low growth — if not outright recession. But that won’t happen tomorrow. It will take at least six months to a year for Trump’s policies to run their course. Only then will there be a likelihood of the US realising the folly of its current policies and making corrections. In the meantime, the US has already inflicted massive damage on its own reputation and trust. No one, including its allies, is likely to trust the US anymore. India certainly will not. The hard work of diplomats over the last 25 years in building good Indo-US relations has been undone in the last two months. Trust is fundamental in any relationship. It cannot and should not be traded for short-term transactional gains. Once trust is lost, it takes decades to rebuild and, in any case, fear always remains.

In such a situation, what should India do? Here are some pointers:

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First, there is no need to retaliate. We have quite a bit at stake, and we don’t have the leverage China has. Second, fast-track diversification of exports to other regions and countries, from Russia to Japan to Australia to the African continent to Latin America. We need to get going on free trade agreements (FTAs) with the EU, Russia, ASEAN, and the African Union and the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP). Third, make the expanded BRICS more proactive on trade by adhering to the rules. The US has already buried the World Trade Organisation (WTO) with its barrage of differential tariffs on various countries. Can BRICS take the initiative to resurrect it? Fourth, remain engaged with the US on trade negotiations and adopt a somewhat more flexible approach. We need to be pragmatic and weigh the net benefit of sourcing oil from Russia, which, as per our rough calculation, is not more than $6-7 billion. If we reduce that somewhat and increase imports from the US, that may help save our exports of $40 to $50 billion. All this will require smart negotiation and should not be seen as a compromise with sovereignty. Lastly, there is a lot to do on the home front, and second-generation reforms need to be undertaken, including a significant reduction in import duties. Otherwise, we help Trump in saying that India is the tariff king.

Let me turn to the issue of trade deficits, which seems to have spurred the US to impose higher reciprocal tariffs. A majority of politicians in most countries, including India, think exports are always good but imports are bad. That gives them the rationale for imposing higher import duties. The fundamental problem with these politicians is that they don’t understand the theory of comparative advantage. Trade brings prosperity among trading nations. The only thing one has to ensure is that trading is based on rules, not export subsidies. That’s where the WTO’s role becomes critical. While export subsidies were banned, exchange rate distortions (especially undervalued currency) were not subjected to any scrutiny. It is well known that China, from the mid-1990s to the mid-2000s, pegged its exchange rate to the dollar at around 8.28. Several studies pointed out that the Chinese yuan was hugely undervalued (by about 20 per cent), which was a hidden way of giving an export subsidy across all sectors. This was a period when China was accumulating trillions of dollars, and yet the exchange rate remained undervalued. This is at the root of the current-day overblown trade deficits of many countries vis-à-vis China. Unless this is checked, undue trade imbalances will remain.

Gulati is a distinguished professor at ICRIER. Views are personal