Will the Reserve Bank of India continue to remain on pause or hike the repo rate this time amid rising crude oil prices and sharp spike in US bond yields? Economists at BofA expect a 25-basis-point hike when the Monetary Policy Committee (MPC) meets from October 5 to October 7. They also expect a cumulative rate hike of 100 bps in FY27 taking the terminal policy rate to 6.25%.
BofA said that they were earlier expecting the rate hike cycle to begin from December but now they believe that “the RBI has little reason to wait, given visibility of growth remains high, inflation appears to be broadening, and the need to wait for clarity on the global front declines.” BofA was also estimating only 50 bps cut overall.
RBI may shift towards tighter policy
One of the reasons BofA cited for doubling its cumulative rate cut forecast is that the risks have shifted towards inflation management rather than growth protection as domestic economic activity remains resilient.
“Growth staying robust further raises risks of inflation expectations staying entrenched, which when combined together, result in a balance of risks biased more towards inflation management, rather than growth protection.” BofA said improving credit demand, strong revenue growth and increasing pricing power point to better domestic growth visibility.
The brokerage expects the RBI to hike rates by 50 bps in Q4 2026 and another 50 bps in H1 2027. It expects the central bank to begin policy recalibration in October and move towards a “calibrated tightening” stance in December.
Inflation pressures broadening
Inflation is another key reason behind BofA’s expectation of rate hikes.
The brokerage said inflation pressures are broadening beyond volatile food prices, with higher commodity prices, energy costs and domestic pricing pressures emerging as risks.
Tradables inflation, whose prices are influenced by global prices, rose to 5.9% in August, approaching levels last seen in late 2024.
BofA also said non-tradables inflation is showing early signs of a U-shaped recovery, indicating that inflationary pressures are gradually spreading beyond imported inflation.
Crude oil prices pose a risk
Higher crude oil prices have added to the inflation risks facing India. Oil prices remained around $100-110 per barrel through most of September. A sustained rise in energy prices could increase fuel prices and put further pressure on headline inflation.
Weather-related food supply risks and higher commodity prices could also keep inflation elevated.
FCNR-B inflows give RBI more room
The RBI’s liquidity management has become particularly important after the surge in FCNR-B deposits.
BofA said the central bank has already been absorbing excess liquidity through various measures, including bond sales.
The brokerage believes the RBI can therefore tighten its liquidity stance without necessarily creating a severe liquidity squeeze in the banking system.
Global rates add to pressure
The RBI is also operating in a global environment where interest rates and bond yields remain elevated.
BofA noted that the US 10-year Treasury yield has touched 5%. This has reduced the India-US yield differential to around 2% in September, close to historically low levels.
A narrower yield differential could affect foreign investment flows into Indian fixed-income markets and add pressure on the RBI to maintain a tighter policy stance.
When would RBI hike more than 100 bps?
BofA said the outlook would depend heavily on the interaction between growth and inflation.It highlighted 7% real GDP growth and 5% headline inflation as important thresholds.If inflation remains around 5% and the repo rate reaches 6.25%, BofA believes the real policy rate would be sufficiently high.
However, if inflation remains closer to 5.5% while GDP growth stays above 7%, the RBI could potentially tighten further, with short-term rates moving above 6.5%, according to the brokerage.
Growth shock could change the outlook
A significant slowdown in growth could force the RBI to reconsider the pace of rate hikes.
BofA identified a global inflationary shock or a domestic deflationary shock as key risks to its rate-hike call.
A sharp deterioration in energy supplies could also weaken domestic demand if fuel consumption is rationed. The brokerage said it would reconsider the pace of rate hikes if forward-looking growth falls below 7% and moves towards 6%.
What’s going to be the RBI’s next strategy
The three-day bimonthly meeting is scheduled to conclude on October 7, when the RBI is expected to announce its next monetary policy decision.BofA said that the central bank’s actual path will depend on how inflation, growth, oil prices, global interest rates and domestic liquidity evolve.