AI deflation: 3.5% hit could cut $10bn IT revenue

AI deflation is becoming a pricing problem for Indian IT

Indian IT services companies are entering a phase where artificial intelligence is not only creating new demand, but also shrinking the value of existing work. Kotak Institutional Equities has flagged “AI-driven deflation” as a measurable headwind, as AI spending increasingly crowds out traditional IT services budgets and pushes down pricing. The note, cited in Economic Times reporting, pegs a base-case industry deflation of 3.5%.

The concern is not limited to theory. March-quarter disclosures and commentary showed early signs of compression, including wider revenue misses across Tier-1 providers. HCL Technologies quantified AI-led deflation at 3-5%, while Tata Consultancy Services (TCS) reported an annual revenue decline of 2.4%, as per Economic Times coverage.

What Kotak is estimating, and why it matters

Kotak’s base-case estimate is that Indian IT services could see about 3.5% net annual revenue deflation from GenAI adoption. The brokerage’s framework accounts for partial offsets from new AI-related implementation spending, but still expects a net negative impact on pricing over the near term.

In a separate synopsis referenced in the provided text, Kotak also indicated Indian IT service providers could face a 3.0-3.5% fall in revenue in the next two fiscal years, compared with an earlier estimate of a 2.0-3.0% hit. The driver is faster-than-expected enterprise adoption of AI tools and automation.

Kotak characterised this deflation as cyclical rather than secular, expecting a two- to three-year deflationary phase before new categories of billable work scale up, including data architecture, agentic workflow deployment, and AI governance.

How AI is shrinking deal sizes and renewals

A key channel for deflation is contract renewals. Kotak noted that pricing pressure is arriving primarily through renewals of large multi-year contracts, where clients embed explicit productivity expectations into rate cards and service levels. In practice, the same output is expected with fewer billable hours, fewer people, or tighter commercial terms.

Economic Times reporting also describes a budget squeeze effect: as AI programs ramp up, they “crowd out” spending that previously went to traditional application development, maintenance, and run-the-business services. The result is a double hit to vendors: smaller deal sizes and more aggressive pricing.

Operationally, the deflation mechanism is tied to software delivery productivity. The technical context cited includes faster code generation, test automation, and template-based modernisation, which reduce turnaround time and compress revenue per unit of work.

March-quarter signals: HCL and TCS in focus

The March-quarter earnings season reinforced the debate because at least one large provider put a numeric range on AI-led deflation. HCL Technologies indicated 3-5% AI-led deflation, according to the cited coverage. Separately, TCS reported a 2.4% annual revenue decline.

Kotak and Economic Times also pointed to broader revenue misses among Tier-1 firms. One passage notes that every large player except TCS fell short of estimates, highlighting that the pressure is showing up in quarterly execution rather than only in long-range forecasts.

While company-by-company causes can vary, the common theme in the provided reporting is pricing compression and deal restructuring, particularly where clients are renegotiating for AI-enabled productivity benefits.

Which service lines are most exposed

Kotak expects application implementation and customer services BPO to see the sharpest impact from deflation, while technology consulting is expected to face more contained pressure. The implication is that labour-heavy, repeatable delivery work is more vulnerable to price resets than advisory-led work.

Jefferies, cited in the provided text, highlighted that application managed services account for 22-45% of IT revenues and could see sharp revenue deflation as engagements structurally shift toward advisory and implementation. This aligns with the broader point that recurring maintenance-style revenue pools may become harder to defend if automation reduces effort.

Other brokerage views in the text are more wide-ranging on magnitude. Prabhudas Lilladher, citing industry experts, estimated a 20-50% deflationary impact on traditional IT services in affected areas. Motilal Oswal projected a potential 10% cut in earnings per share for large-cap IT firms if deflation materialises rapidly.

Market performance reflects the uncertainty

Indian IT stocks have already repriced sharply amid concerns that AI could upend the outsourcing model. The benchmark IT index was reported to be down 20.7% year-to-date, dramatically underperforming the Nifty 500, which was down 4.5%, based on 2 March 2026 values.

Another report described an “unprecedented rout” and said the Nifty IT index was down about 20% this year, with the sell-off beginning early February after Anthropic’s Claude agent released a tool it claimed could automate key legal, compliance and data processes. The same coverage noted that some founders warned about IT services disappearing by 2030, and some CEOs warned AI could eliminate 50% of entry-level white-collar jobs, while Indian IT giants publicly argued the fears are overblown.

Scale of the sector, and why jobs are in the discussion

The text notes India’s technology sector crossed the US$100 bn revenue milestone in fiscal 2026. Alongside that milestone, it highlights an employment shift: a sector that once added 600,000 jobs in a single year is now adding roughly 140,000 while generating more revenue than ever. The argument presented is that revenue growth and employment are structurally decoupling as AI increases output per worker.

One segment also states that India’s workforce is about 620 million people, underscoring why job-linked anxiety can amplify market narratives even when company-level guidance is still evolving.

What offsets could look like: IP, platforms, and new work

The provided editorial analysis argues that vendors accelerating productised IP, automation and outcome-based offerings are more likely to offset service-level deflation. It also notes mix shifts toward productised IP, platform revenue and outcome-based contracts, along with deal ramp timing issues as client budgets reallocate from run-the-business work to AI transformation programs.

There is also a large opportunity set mentioned in adjacent coverage: legacy code modernisation is described as a US$100 bn opportunity for Indian IT firms, according to Elara Capital. While opportunity sizing does not guarantee near-term revenue, it frames why multiple analysts still call AI deflation a transition rather than an end-state.

Key numbers and statements at a glance

Analyst positioning and what investors are tracking

The text includes a Kotak stance that the sector remains “investable” at an expected growth rate of around 3%, but warns that slower expansion, heightened competition and AI-driven pricing pressure represent a shift from the double-digit growth trajectory of the prior decade. It also lists Kotak’s calls: BUY TCS, Infosys, Tech Mahindra; SELL HCL, Wipro.

For investors, the main variables flagged across the excerpts are how quickly deflation shows up in renewals, whether AI implementation spending offsets run-rate services erosion, and how successfully firms move to platform, IP-led, or outcome-based constructs. The reporting also suggests that valuation multiples could compress further if uncertainty persists over which firms adapt fastest.

Conclusion

The core message across the cited notes and earnings-season commentary is that AI is now showing up as a pricing and deal-structure headwind for Indian IT, with Kotak estimating 3.5% net annual deflation and HCL putting a 3-5% range on the phenomenon. Market underperformance has mirrored these concerns, even as analysts argue the longer-term relevance of the industry remains intact.

The next set of quarterly renewals, commentary on AI-related offsets, and evidence of scaling in productised IP and outcome-based work are likely to be the main signposts for whether the current deflationary phase is stabilising or widening.