The RBI on Wednesday raised the repo rate by 25 basis points, taking the benchmark policy rate to 5.5 percent. This is India’s first rate hike in nearly four years and comes amid broadening inflationary pressures squaring up against resilient growth. The central bank also shifted its policy stance from neutral to calibrated tightening, officially confirming the beginning of a rate hike cycle. However, it did not press the panic button by indicating aggressive hikes, instead opting for a round of tightening whose pace would be determined by food and fuel inflation. For now, the markets expect another 100-bp rise in this cycle, which would take the policy rate to 6.5 percent, though some expect a shallower cycle than the one in 2022 that saw an increase of 250 bps. In any case, borrowing costs will go up and discretionary spending may be restrained in the coming months.
The upward revision of the 2026-27 GDP forecast to 7.1 percent implies that growth can absorb modest tightening without derailing momentum, but it is the upward revision of inflation forecast to 5.2 percent that raises the prospect of a December hike. With nearly half the monitored basket seeing price rises of 4 percent or more, the chance of inflation breaching the 6 percent upper limit during the October-December quarter appears high. So, a pre-emptive tightening in October is prudent.
India’s average oil import price stood above $116 a barrel in September; with global crude remaining above $100, the risk of higher inflation is indeed rising. Food prices need a close watch given the weak monsoon and strong El Niño. Overall, the repo rate is barely 30 bps above the annual inflation forecast—which means further hikes seem appropriate to de-anchor inflation expectations. On the other hand, if crude prices correct below $90, the RBI may hit a pause in December.
Oil prices have jumped 40 percent since the August policy review, a pressure fuel retailers are absorbing for now. In other words, the inflation loaded into the pipeline has not fully arrived yet. If crude prices firm up further, pump prices will likely spill over. So Wednesday’s rate hike aims at preventing price pressures from getting entrenched in the broader inflation basket; it’s not about defending the rupee, which remains under pressure amid rising bond yields across the world.
