RBI’s Dovish Pause Shifts Expectations For Next Interest Rate Hike

Expectations for the Reserve Bank of India’s next policy rate increase have moved further out after the central bank left interest rates unchanged and lowered its inflation projections. Economists have revised their forecasts, with several now expecting the first rate hike in December or later instead of October.

Invest in Indian Markets and Unlock Future Potential With 5paisa!

Open Account Now

The Monetary Policy Committee kept the policy rate unchanged at its latest meeting and reduced its average retail inflation forecast for the current financial year by 10 basis points to 5%. It also lowered the projected core inflation estimate by 40 basis points to 4.3%, signalling that underlying price pressures remain contained despite recent volatility in the crude oil price.

Inflation Outlook Influences Rate Expectations

RBI Governor Sanjay Malhotra said after the policy announcement that there was no evidence so far that the recent rise in the crude oil price had resulted in broader inflationary pressures across the economy. At the same time, he said the central bank would continue monitoring possible second-round effects from higher food and fuel prices.

The policy outcome led to a shift in interest rate expectations in financial markets. Overnight indexed swap rates, which are widely tracked as an indicator of future policy expectations, now imply around 50 basis points of rate increases over the next year. During the peak of the Iran-related geopolitical tensions, markets had priced in as much as 125 basis points of tightening.

Economists Push Back Forecasts

Following the policy decision, several institutions revised their outlook for future rate action.
Michael Wan, Senior Currency Analyst at MUFG Bank, said the bank continues to expect the RBI to raise rates by a cumulative 50 basis points to 5.75%, but has shifted its expectation for the first increase to December from October.

Goldman Sachs Chief India Economist Santanu Sengupta said the timing could move even further if core inflation remains below projections. The firm now expects 25-basis-point rate increases in December and February.

ICICI Bank also revised its outlook. Sameer Narang, Head of Economic Group Research, said the bank now expects the first increase only in April. Separately, HDFC Bank Principal Economist Sakshi Gupta said the lender has moved its forecast for the initial rate hike to February, citing the absence of any indication in the RBI’s policy statement that immediate liquidity absorption measures were required.

Inflation And Policy Remain In Focus

India’s retail inflation rose to 4.38% in June, crossing the RBI’s medium-term target of 4% for the first time in 17 months. However, core inflation continued to remain close to 4%, supporting the central bank’s assessment that underlying price pressures have not accelerated despite fluctuations in the crude oil price.

The RBI’s latest projections and policy guidance have prompted markets to reassess the pace of monetary tightening. Future decisions are likely to depend on incoming inflation data, domestic demand conditions and whether movements in the crude oil price begin to feed into broader consumer prices over the coming months.