Foreign capital is fleeing, AI concerns are mounting, and rising energy costs are testing the resilience of the world’s fastest-growing major economy.
MARKET INSIDER – For more than a decade, India has been one of the most compelling investment stories in the world, attracting global capital with its vast consumer market, economic reforms, and promise of becoming a manufacturing and technology powerhouse. But as Prime Minister Narendra Modi enters his third term, that narrative is facing its most significant challenge yet.
The world’s fastest-growing major economy is grappling with a combination of rising energy costs, geopolitical shocks from the Middle East, slowing investment momentum, and growing concerns that India could fall behind in the global artificial intelligence race. The result has been a sharp deterioration in investor sentiment, triggering one of the largest foreign capital outflows in recent years.
Despite Modi maintaining strong domestic popularity in his 12th year in office, foreign investors have become increasingly cautious. Foreign portfolio investors have reportedly sold nearly $30 billion worth of Indian equities so far in 2026, following almost $19 billion in net sales during 2025. While gross foreign direct investment remains robust at more than $90 billion over the past 12 months, rising profit repatriation by multinational companies and increased overseas investments by Indian firms have pushed net FDI close to historic lows.
The capital exodus is placing additional pressure on the Indian rupee at a particularly vulnerable moment. India imports more than 85% of its crude oil requirements, making the economy highly sensitive to global energy price shocks. As tensions in the Middle East continue to disrupt markets, higher oil prices are expected to feed directly into inflation, reducing household purchasing power and weighing on economic growth.
India’s central bank has already acknowledged the challenge. The Reserve Bank of India recently raised its inflation forecast for the fiscal year ending March 2027 to 5.1% while lowering its growth outlook to 6.6%, down from a previous estimate of 6.9%. While these figures remain enviable compared with most major economies, investors are increasingly questioning whether India can maintain the exceptional growth premium it once commanded.
To counter the outflows, New Delhi recently introduced measures aimed at attracting foreign capital, including exempting certain capital gains taxes for overseas investors in India’s bond market. Yet many economists argue that incremental adjustments will not be enough. According to analysts, deeper structural reforms in land acquisition, labor regulations, infrastructure efficiency, and legal dispute resolution remain critical if India wants to sustain long-term competitiveness.
Adding to the uncertainty is a growing debate over India’s position in the AI revolution. While countries such as the United States and China are developing proprietary AI models and building dominant ecosystems, critics warn that India risks becoming a consumer rather than a creator of AI technology. Analysts at Bernstein have cautioned that advances in artificial intelligence could threaten high-quality jobs in India’s massive IT services sector, potentially undermining one of the country’s most important economic engines.
Some observers argue that India may have already missed a critical window to establish leadership in AI. Although investment in data centers offers an avenue for participation in the AI economy, experts question whether it can compensate for potential job losses and declining competitiveness in higher-value technology services.
The bigger question for investors is no longer whether India can grow—it almost certainly will. The real question is whether India can grow fast enough, reform deeply enough, and innovate boldly enough to justify the premium valuations that global markets once assigned to it. As capital becomes increasingly selective and AI reshapes the global economic landscape, Modi’s third term may ultimately be remembered not for India’s rise, but for how successfully it adapted when the world changed around it.
