The Reserve Bank of India's Monetary Policy Committee (MPC) began its three-day policy meeting on Monday, with market participants widely expecting the central bank to keep the benchmark repo rate unchanged while maintaining a cautious stance. As per The Hindu BusinessLine, economists and market experts believe the RBI is unlikely to rush into any change in interest rates despite persistent global headwinds, including elevated crude oil prices and a relatively hawkish U.S. Federal Reserve. The central bank is expected to remain focused on domestic inflation, liquidity conditions and economic growth while closely monitoring external developments. Vinay Pai, MD & Head of Fixed Income at Equirus Capital, noted that the RBI's policy decisions would be driven primarily by domestic macroeconomic conditions rather than closely tracking global monetary policy, with the U.S. Federal Reserve's hawkish stance having pushed U.S. Treasury yields higher, narrowing the yield differential between Indian and U.S. bonds.
Headline retail inflation accelerated to 4.38 per cent in June from 3.93 per cent in May, breaching the RBI's 4 per cent target for the first time since January 2025 and touching an 18-month high. The RBI's projection for FY27 CPI inflation was raised to 5.1 per cent from 4.6 per cent earlier, with quarter-wise projections of 4.2 per cent in Q1, 5.1 per cent in Q2, 5.9 per cent in Q3, and 5.4 per cent in Q4. The 5.1 per cent inflation projection is based on an assumption of crude price at $95 a barrel, with the central bank following a flexible inflation target of 4 per cent with a 2-percentage point band on either side. Maulik Patel, Head of Research at Equirus Securities, noted that an uptick in wholesale and retail inflation due to petrol and diesel pump price increases, second order effects, and impact on food due to weather disturbances is contributing to inflationary pressures. CPI for the full year is estimated at 4.9 per cent owing to these pressures and with upside risks, with Equirus Securities expecting a 25-basis-point rate hike in the December policy review. Food-inflation rate increased to 5.32 per cent in June, as against 4.78 per cent in the previous month, with the impact of higher crude oil prices on the consumer price index being limited due to partial pass-through by oil companies.
The RBI lowered its GDP growth projection to 6.6 per cent from 6.9 per cent for FY27, reflecting emerging inflation concerns and global uncertainties. However, most economists expect Q1 FY27 GDP to exceed central bank projections, with SBI expecting Q1FY27 GDP at 7%. As per The Economic Times, Soumya Kanti Ghosh from SBI group expects Q1 FY27 real GDP growth to outperform RBI's earlier projection of 6.6% and come in at around 7.0%. He noted that economic activity in the first quarter has been stronger than anticipated, with domestic demand holding up well and spillovers from the West Asia conflict proving far more contained than initially feared, strengthening the case for an upward revision to the RBI's FY27 GDP growth forecast from the current 6.6 per cent. The 10-year bond yield, which closed at 6.975 per cent on June 5, dropped to 6.685 per cent on July 6 and closed at 6.83 per cent last Friday, following the deferment of Indian government bonds' inclusion in Bloomberg's Global Aggregate Index. The rupee closed at 94.94 a dollar on June 5 and rose to 94.33 by June 18, bolstered by the RBI's multi-pronged strategy to attract foreign capital. Since the window to attract foreign currency opened, there has been an inflow of $41 billion under the concessional mechanisms announced in June, with the RBI's foreign currency assets rising to $555.9 billion by July 24 from $543.4 billion in the first week of June. However, overall foreign exchange reserves remained unchanged at around $682 billion during this period.
Traders are betting on RBI rate hold and cash boost to steepen India's yield curve, with the gap between 30-year and five-year yields widening to more than 100 basis points following the RBI's June 5 measures to boost capital flows. As per Business Standard, DBS Bank Ltd. and Trust Asset Management Pvt. see the yield curve steepening further after the central bank's measures. The five-year bond yield has fallen 35 basis points to 6.45% since the RBI and government unveiled steps to boost inflows, while it's down 17 basis points to 7.47% on the 30-year debt. Sameer Karyatt, head of trading at DBS Bank India, noted that the possibility of higher global interest rates driven by inflation concerns is likely to limit any significant decline in longer-tenor yields. The trade reflects a global trend, with the US yield curve sharply steepening after the Federal Reserve held interest rates steady last week, as concerns over inflation and government borrowing pressure longer-dated yields. Swap rates are pricing in 50-75 basis points of RBI rate hikes in the current cycle, but the first one is still three to six months away, according to Sandeep Bagla, chief executive at Trust Asset Management. The yield-steepening trade may run its course, with the RBI's concessional deposit swap window set to close at the end of this quarter, according to Murthy Nagarajan, head of fixed income at Tata Asset Management, with short-end yields likely to move up after September when the window gets closed.
Despite expectations of a pause in August, economists expect the MPC to continue with a 'neutral pause' as the recent rise in inflation is largely supply-driven and premature policy tightening could hurt growth. Barclays Securities (India) economists expect the MPC to continue with a 'neutral pause', highlighting that the recent rise in inflation is largely supply-driven and that premature policy tightening could hurt growth. Goldman Sachs expects a cumulative 50 basis points of rate hikes in this cycle, beginning with a 25 bps increase in October. Bank of Baroda Economist Sonal Badhan expects no change in rates or stance but believes the RBI could use the policy review to prepare markets for a future hike, citing risks from shipping costs through the Strait of Hormuz and Red Sea, along with food prices, and expects at least one rate hike in H2FY27. Kotak Mahindra Bank expects a 50-basis-point hike in the second half of FY27, while Yes Bank said an increase could come as early as the October or December policy meeting, depending on how macro and global conditions evolve. Soumya Kanti Ghosh from SBI group expects CPI inflation for Q1 at 3.9%, followed by 5.2% in Q2, 5.6% in Q3, and 5.0% in Q4, taking the FY27 average to around 5%. Mandar Pitale, Head of Financial Markets at SBM Bank (India) Ltd., noted that present growth-inflation dynamics point towards risks to growth with a manageable inflation trajectory in the immediate future, with global oil prices and the progress of the monsoon remaining key factors influencing future policy decisions. He warned that if crude oil prices remain in the $90-100 per barrel range for a prolonged period, inflationary pressures could intensify, potentially strengthening the case for rate hikes in the second half of the fiscal year. At the time of reporting, Brent crude was trading at around $83.90 per barrel while crude oil was trading at around USD 80.15 per barrel, reflecting ongoing geopolitical tensions in the Middle East.
