RBI turns hawkish, hikes repo rate to 5.5% and signals more tightening ahead

The Reserve Bank of India (RBI) on Wednesday raised the policy repo rate by 25 basis points to 5.5%, marking its first rate hike since February 2023, as the central bank adopted a more hawkish stance amid mounting inflation risks, Bank of Baroda Economist Jahnavi Prabhakar says in a report.

The Monetary Policy Committee (MPC) unanimously voted in favour of the rate hike. The standing deposit facility (SDF) rate now stands at 5.25%, while the marginal standing facility (MSF) rate has been raised to 5.75%. The MPC also changed its policy stance to “calibrated tightening” from neutral. The move effectively rules out rate cuts for now and indicates that the RBI could either raise rates further or pause, depending on the evolution of growth and inflation.

Two MPC members, Nagesh Kumar and Ram Singh, voted to retain the neutral stance.

RBI raises FY27 growth forecast to 7.1%

Despite global headwinds, the RBI raised its FY27 real GDP growth forecast to 7.1% from 6.7% estimated in its August policy.

The upward revision reflects stronger-than-expected economic activity, with GDP growth in Q1 FY27 coming in at 7.8%, driven by robust investment, private consumption and buoyant services exports.

High-frequency indicators for July and August also suggest that economic momentum has remained strong in the second quarter, supported by double-digit growth in merchandise exports.

The RBI raised its Q2 and Q3FY27 growth forecasts to 7.2% and 6.9%, respectively, representing upward revisions of 80 basis points and 40 basis points from its previous estimates. The Q4 forecast was left unchanged, while the Q1FY28 growth projection was lowered to 7.1% from 7.3%.

The central bank, however, flagged risks from global economic uncertainty, the prolonged West Asia conflict, elevated energy prices, and continuing supply-chain disruptions.

Inflation outlook turns less benign

The RBI raised its FY27 inflation forecast to 5.2% from 5% earlier, with headline inflation expected to peak at 6% in Q3 FY27 before moderating in subsequent quarters.

Inflation is projected at 4.9% in Q2, 6% in Q3, and 5.7% in Q4 FY27. For Q1 FY28, inflation is expected to remain elevated at 5.6%.

The central bank highlighted deficient monsoon conditions, ongoing El Niño conditions, and elevated energy and other commodity prices as key upside risks to inflation.

Food inflation has already shown signs of pressure, while fuel inflation has been affected by an unfavourable base effect. Lower kharif acreage, sub-par monsoon conditions and geopolitical tensions could add to price pressures in the coming months.

Two more rate hikes expected in FY27

The RBI's change in stance signals a clear recalibration of monetary policy as inflation risks become more persistent. While the central bank acknowledged that there are limited signs of both supply-side and demand-side price pressures, elevated inflation expectations remain a concern.

The evolving geopolitical situation could also push crude oil and other commodity prices higher, adding to India's imported inflation risks. Against this backdrop, the expectation is for two more 25-basis-point rate hikes by the RBI during FY27, which could take the repo rate to 6%.

The 10-year government bond yield is expected to remain in the 7.2–7.4% range by the end of FY27. Following the policy announcement, the Sensex slipped marginally, the rupee weakened and the 10-year bond yield edged higher.

RBI proposes account aggregator interoperability

Separately, the RBI proposed interoperability among NBFC-account aggregators (AAs) to improve customer convenience. Under the proposed framework, customers will be able to access and share their financial information through an account aggregator of their choice.

The RBI also proposed enabling SEBI-regulated depositories to include bank deposit account information in Consolidated Account Statements through the NBFC-AA framework. This would allow customers to access information on their demat and bank deposit accounts at a single place.

The central bank also announced plans to establish a technical consultative committee for financial markets to facilitate structured engagement with market participants and stakeholders on monetary policy, government securities and foreign exchange markets.