Introduction to India’s Monetary Policy
The Reserve Bank of India’s (RBI) Monetary Policy Committee (MPC) has decided to leave the policy rate unchanged, maintaining a neutral stance. This decision is in line with expectations, as the central bank is waiting to see the impact of recent monetary policy actions and fiscal stimulus. The RBI has indicated that it may consider a policy rate cut in the future if growth headwinds intensify.
Growth and Inflation Dynamics
The growth-inflation dynamics have changed since the last policy meeting in August. There is a higher threat to growth due to steep US tariffs of 50 per cent, which is affecting India’s goods exports. However, there are some supporting factors for domestic demand, including the recent rationalization of GST rates, reduction in income tax burden, a good monsoon, benign inflation, and lower interest rates.
Revised GDP Growth Projections
The RBI has revised upwards the GDP growth projection for FY26 to 6.8 per cent, mainly due to estimated sharp GDP growth in the first half of the year. However, the central bank has revised the growth projection lower for the second half of FY26, considering the adverse tariff impact. The projected GDP growth for FY27 is 6.6 per cent.
Inflation Projections
The inflation projection for FY26 has been lowered to 2.6 per cent from the earlier projection of 3.1 per cent. This is due to a sharper than expected moderation in food inflation and the impact of GST rationalization. Core inflation is currently contained at around 4.2 per cent, and excluding precious metal prices, it is lower at around 3 per cent.
External Sector and Capital Flows
The external sector front is uncertain due to high tariffs imposed by the US. While India’s goods exports are feeling the pinch, services exports remain healthy. The current account deficit to GDP is estimated to remain comfortable in the range of 0.9 per cent to 1.3 per cent. Capital flows have been adversely impacted by persistent FII outflows from the equity market and feeble net FDI flows.
System Liquidity and Banking Sector
System liquidity has remained broadly in a surplus mode, with the RBI intervening as required. The transmission of rate cuts to the banking sector has picked up in the last couple of months but remains incomplete. The RBI has announced measures to strengthen the banking sector, including the Expected Credit Loss (ECL) Framework and revised Basel III capital adequacy norms.
Internationalization of the Rupee
The RBI has announced measures to promote the internationalization of the rupee, including permitting AD banks to lend in Indian rupee to non-residents from Bhutan, Nepal, and Sri Lanka for cross-border transactions. The RBI has also permitted balances of Special Rupee Vostro Accounts (SRVA) to be invested in corporate bonds and commercial papers.
Conclusion
The RBI’s monetary policy decision is aptly formulated, considering the domestic and global uncertainties. The decision to leave the policy rate unchanged leaves ammunition with the RBI to act if growth falters. The central bank has provided a clear direction on the future trajectory, highlighting that there is room for monetary easing in the future. The biggest threat to the Indian economy is the global environment, and the government is trying to negotiate a trade deal with the US. If the 50 per cent tariff rate persists, India’s merchandise exports and overall growth will feel the brunt. There are chances of a 25 basis points rate cut in the next MPC meeting in December if growth concerns intensify.
