A recent report by global credit rating agency Moody’s Investors Service has cautioned that persistent tensions between India and Pakistan could pose a serious threat to Pakistan’s economic stability while modestly impacting India’s fiscal health.

The report noted that if tensions continue to rise, Pakistan’s access to external financing could be impaired, placing further pressure on its already fragile foreign exchange reserves, which remain significantly below the threshold needed to meet the country's external debt obligations over the next few years.

Moody’s elaborated that “a sustained escalation in tensions with India would likely weigh on Pakistan’s growth and disrupt the government’s fiscal consolidation efforts,” thereby stalling the country’s progress toward macroeconomic stability. Despite recent improvements—including rising growth, falling inflation, and better performance under the IMF programme—Moody’s stressed that geopolitical volatility could reverse those gains.

Meanwhile, India’s macroeconomic outlook remains comparatively resilient. According to the report, “India’s growth remains strong, supported by robust public investment and healthy private consumption.” Even in a scenario of localized military flare-ups, major disruptions to India’s economic activity are unlikely due to its limited economic ties with Pakistan, which accounted for less than 0.5% of India’s total exports in 2024.

However, Moody’s did point out that an increase in defense expenditure could slow India’s fiscal consolidation and impact its fiscal strength over time.

The report follows heightened diplomatic tensions after a deadly terror attack on April 22 targeting tourists in Jammu and Kashmir. On April 30, Pakistan’s Information Minister accused India of planning an imminent retaliatory military strike. The situation escalated with India suspending the Indus Waters Treaty of 1960, a critical agreement that governs water sharing, while Pakistan retaliated by suspending the 1972 Simla Agreement, halting trade, and closing its airspace to Indian carriers.

While Moody’s political risk assessment acknowledges that periodic flare-ups have been a feature of India-Pakistan relations since independence, it concludes that a full-scale conflict is unlikely. “These tensions have, at times, triggered military actions, but history suggests that they will remain localized and contained,” the report observed.