India’s economy continues to grow strongly on the back of robust domestic demand, despite persistent global challenges, according to the Financial Stability Report (FSR) of the Reserve Bank of India (RBI). The Financial Stability Report (FSR) is a half yearly publication that includes contributions from all financial sector regulators. It presents the collective assessment of the Sub Committee of the Financial Stability and Development Council on current and emerging risks to the stability of the Indian financial system.

Benign inflation in India, fiscal consolidation, and prudent macroeconomic policies have enhanced economic resilience, the RBI report noted on Wednesday. The domestic financial system remains sound, supported by strong balance sheets, easy financial conditions, and low market volatility, it supplemented, the report said.

The economy and the financial system, however, faces near-term risks from external uncertainties – geopolitical and trade related, it, however, cautioned. “These factors could increase exchange rate volatility, dampen trade, reduce corporate earnings, and lower foreign investment,” it noted.

A sharp correction in US equities could influence domestic equities and tighten financial conditions. However, the economy and financial system have strong buffers to withstand adverse shocks. Globally, growth has proven more resilient than expected despite trade tensions, geopolitical risks, and uncertainty around economic policy, supported by front-loaded trade, fiscal measures, and strong AI-related investment.

Nonetheless, risks to the outlook remain skewed to the downside due to still elevated uncertainty, high public debt, and the risk of a disorderly market correction, the RBI report said. “Financial markets appear strong on the surface but show growing underlying vulnerabilities. Sharp rise in equities and other risk assets, high hedge funds’ leverage, expanding opaque private credit markets and growth of stablecoins all heighten global financial system fragilities,” it added.

Ample liquidity is supporting risk-on sentiment across asset classes, but a sharp correction – especially if AI optimism fades – could spill over to the broader financial system, given rising interconnectedness, the RBI report said, delving into global macrofinancial risks.