RBI holds rates as ‘Goldilocks’ period continues

After a surprise rate cut in December, the Reserve Bank of India’s (RBI’s) Monetary Policy Committee (MPC) on Friday paused at 5.25% and maintained its ‘neutral’ stance, citing strong growth, low inflation and easing trade-related currency pressures.

Of 10 economists polled by Mint, nine expected the status quo on rates, while one anticipated a 25-basis-point (bps) cut to 5%. In December, the rate-setting panel had cut the benchmark repo rate by 25 bps.

The central bank raised its growth projection for FY26 by 10 bps to 7.4% on the back of the recent trade deals and strong domestic demand. The GDP projection for FY26 was higher than 6.8-7.2% pegged by the Economic Survey released last week.

The growth forecast for Q1 FY27 has also increased to 6.9% from 6.7% earlier, and for Q2 of the next financial year to 7% from 6.8%. The Indian economy had posted a surprising six-quarter high growth of 8.2% in the quarter ended September, beating the RBI’s 7% projection.

“Macroeconomic fundamentals of the country, including the external sector, are very strong, robust and very healthy. Whether you look at growth or inflation, at the current account on the external side, or you look at even the capital account side, I think the near-to-medium term outlook is very healthy and favourable,” governor Sanjay Malhotra said in the post-policy conference.

Malhotra cited recent bilateral and multilateral trade deals, including the ones signed with the European Union and Oman, and the “prospective UK deal”. Combined with a “very comfortable” current account, these trade deals should not only help the current account on the trade, merchandise and services side, but also boost investments, he said. He also highlighted the other recent measures by the government such as allowing 100% foreign direct insurance in the insurance sector and the recent Budget announcement of a tax holiday for data centres.

On the expected benefits from the proposed India-US, which is seen as reducing tariffs on India from 50% to 18%, the governor said it is still “early days”, and the central bank has not yet assessed how much it could contribute to GDP growth.

“Right now we do not even have the details thereof,” Malhotra said, adding that the RBI will be in a better position to share some of these assessments by the time of the next monetary policy in April 2026.

“Based on our estimates, the proposed tariff reduction could add 20 bps to GDP growth, leading us to project growth of 7.2% for FY27. CPI (consumer price index) inflation is expected to average close to 4% in FY27. However, the forthcoming new series for both CPI and GDP will need close monitoring, as these could lead to minor revisions to our projections,” said Rajani Sinha, chief economist at CareEdge Ratings.

Goldilocks period continues

In line with the increase in growth forecast, the inflation projection for FY26, too, was raised to 2.1% from 2% earlier. CPI inflation in Q1 FY27 and Q2 FY27 is seen at 4.0% and 4.2%, respectively.

“The slight upward revision in the inflation outlook is primarily due to the increase in prices of precious metals, which contribute about 60 to 70 basis points. The underlying inflation continues to be low. On the growth front, economic activity remains resilient,” Malhotra said in his statement. The inflation levels for November and December remained below the RBI’s tolerance band, he said.

India's retail inflation, as measured by CPI, stood at 1.33% in December, up from 0.71% in November. Under the flexible inflation targeting framework, the MPC targets retail inflation at 4% with a tolerance band of +/-2%.

Despite rising inflation expectations, Malhotra believes the Indian economy remains in a period of robust growth and benign inflation.

“We are in a good spot, earlier mentioned as Goldilocks,” he said, referring to the term he first used in the December 2025 policy. He expects policy rates to be at “low levels for a long period of time”. “Whether they (the rates) will go down even further, I will leave it for the MPC to decide going forward,” he said.

"MPC would wait for the new inflation and GDP series and give revised forecasts in April. Nevertheless, in the existing framework they have revised their inflation estimates upward while firming up growth, suggesting that there is a long pause ahead," said Anitha Rangan, chief economist at RBL Bank, adding that the main takeaway was the upside risks from externalities.

"While RBI said that they would be pre-emptive on liquidity, no announcement of any structural measures is disappointing. While they acknowledge higher G-sec yields not announcing measures or announcing measures ‘as and when needed’ will only keep volatility active," she added.

Markets remain unhappy

The increase in inflation forecast in the absence of any additional liquidity measures drove government bond yields higher after the policy announcement. The yield on the benchmark 10-year government bond rose to 6.71% from 6.65% at open following the policy, and further inched up through the day to end 9 bps higher at 6.74%.

"The MPC noted the improvement in system liquidity since Dec-25 on the back of its durable liquidity infusion ( ₹6.3 trillion since Dec-25), disappointing markets on any further infusion announcements," said Madhavi Arora, chief economist at Emkay Global Financial. As such, Arora expects system liquidity to improve steadily by end-FY26, limiting the need for more RBI infusion via open market operations (OMOs).

Despite a fairly deep easing cycle of 125 bps since February 2025, less than 10% transmission is visible in bond yields in this cycle lower than 88% in the 2019 easing cycle of 8 months and the average transmission of 83% over the past 4 easing cycles, Arora said, adding that this is reflected in the flattened sovereign curve, widening corporate bond spreads, and rising money-market and wholesale deposit rates. With bond bearishness expected to persist through FY26, she expects the 10-year benchmark bond yield to remain in the 6.60–6.75% range till 31 March.

Bond yields have been rigid amid persistently tight liquidity conditions in the market and concerns regarding increased government borrowing announced in the Union Budget for 2026-27 at a time when money markets are already facing a supply overhang.

However, the RBI governor on Friday said that while the gross borrowing figure looks high at ₹17.2 trillion, the market needs to focus on the net borrowing figure, given a higher quantum of bond redemptions due in the coming financial year.

“The gross calendar will obviously be higher, but if you look at the net numbers, ₹11.53 trillion is the number for government securities borrowing program this year. Next year, it is budgeted to be ₹11.73 trillion, which is only ₹20,000 crore more,” he said, adding that this increase is in line with the expected growth in GDP.

The government will also look to raise funds via treasury bills in the coming year, which will further help in managing the yield curve better, he said. “The borrowing program that the government is looking at is much on the lower side, and they should be able to raise these kind of resources at very reasonable prices.”

The RBI also said that easing tariff pressures should support the domestic currency ahead. While the rupee initially gained following RBI’s policy announcement, sustained foreign fund outflows led to the rupee pare its gains, with the Indian unit closing 36 paise lower at 90.70 against the US dollar.

“Easing trade policy uncertainties after the recent trade deals are likely to lend some support to the rupee,” CareEdge’s Sinha said. “This may allow the RBI to scale back its forex market interventions, which had increased in the recent months amid elevated volatility. Reduced intervention would be supportive of rupee liquidity.”