India’s 2024 general election wasn’t the landslide victory for Prime Minister Narendra Modi and his Bharatiya Janata Party (BJP) many had predicted. Quite the opposite, actually.

The BJP lost its majority in Parliament so Modi will now need to rely on two smaller parties which joined the BJP-led National Democratic Alliance (NDA) only a few months before the elections. Significantly, the small parties’ leaders are known for switching sides depending on which way the political winds are blowing.

Even if the coalition is formed quickly and easily, an NDA government will not likely run as smoothly as when the BJP commanded a parliamentary majority. This is largely why markets have reacted so negatively to the election results, although they have partially recovered as it becomes clearer a coalition government will be formed.

But there are many unanswered questions about what a weaker BJP-led coalition will mean for the Indian and global economies.

Reviewing the achievements and shortcomings of Modi’s ten-year tenure, two aspects stand out. First, India’s two Achilles heels, its twin external and fiscal deficits, have been reduced.

On the external front, India is now much less vulnerable to external shocks like the Fed tapering in 2013, with its current account deficit reduced from an average of 3.5% during 2010-2013 to only 1% at present.

India’s resilience on the external front, though, is not from stronger exports but rather lower imports, notwithstanding booming domestic demand. The reason for this is mainly import substitution as domestic products are shielded from foreign competition by high import tariffs and growing industrial policy.

This sounds more like Latin America in the 1970s than China after its entry into the WTO in 2001, when import tariffs were slashed to facilitate the entry of foreign manufacturers which facilitated technological transfer, more modern business practices and a historic economic boom.

Modi’s reluctant trade liberalization is one of the key reasons why foreign direct investment (FDI) into India, especially in manufacturing, is still underwhelming. With the formation of a weaker coalition government, it’s hard to envision a stronger push for trade liberalization, particularly as local industrialists and trade unions who favor protectionist barriers have more political cards to play.

Against this backdrop, and notwithstanding the geopolitical tailwinds from a world that is looking to “de-risk” from China, India might not become the FDI magnet many analysts were predicting for Modi’s third term. 

Second, on the fiscal front, Modi has somewhat improved India’s position, although the deficit remains large. His introduction of a goods and services tax (GST) was an important achievement, although much more needs to be done on direct taxation.

The fiscal space created by higher tax revenues has mostly been used for public investment including badly needed infrastructure. With a weaker coalition government, however, Modi might have no choice but to reallocate fiscal resources away from public investment toward more welfare programs amid rising calls to address economic inequality.

However, given the massive amount of investment India will need to reduce its infrastructure gap and become more attractive to foreign investment, including manufacturing capacity seeking to exit China, this will clearly be a problem down the road.

It is crucial to create enough manufacturing jobs in populous India. To date, the country has done well in ICT sectors but those jobs are for the most skilled workers, leaving behind the much larger pool of unskilled labor.

To create the number of jobs needed to double India’s average income over the next 20 years, heaps of labor-intensive manufacturing jobs will be needed. Whether a weaker Modi government will be able to push through the domestic reforms necessary to attract more FDI than he managed during his first two mandates is questionable.

With all these considerations, it seems safe to expect a slower reform agenda and therefore lower potential growth for India during Modi’s third term. To be sure, given foreign investors’ interest in India as the only country big enough to absorb their supply chains diversified from China, there is still room and hope for a positive economic narrative.  

The EU in particular needs a strong and open Indian economy not only for its exports but also as an alternative to China for its FDI in manufacturing production. While India’s reform prospects have dimmed after the election, the EU and others may still be willing to strike a trade deal with India at a time of heightened global uncertainties and great power competition.

Alicia García-Herrero is chief economist for Asia Pacific at Natixis and senior research fellow at Bruegel