By Soumya Kanti Ghosh, Member, 16th Finance Commission, Member, PM Economic Advisory Council, and Group Chief Economic Advisor, State Bank of India
The Monetary Policy Committee’s (MPC) unanimous decision to retain the repo rate at the existing level was largely expected. The MPC also continued with the neutral stance. With this, the terminal rate for FY26 stays at 5.25%.
On the macroeconomic assessment front, the domestic growth outlook remains positive although geopolitical headwinds have impacted the external sector. GDP growth at 7.4% in 2025-26 has been driven by private consumption and fixed investment. Furthermore, sustained buoyancy in services sector, goods and services tax rationalisation, and healthy rabi prospects lend confidence for a strong growth in FY27. Accordingly, real GDP growth projections for Q1 and Q2 FY27 are revised upwards to 6.9% and 7.0% respectively. The full-year FY27 forecast and inflation projections will be made available after the release of the new data by the Central Statistics Office this month. The successful completion of trade deals augurs well for the economic outlook in FY27.
On the inflation side, the FY26 story has been one of retreat. Headline consumer price index (CPI) inflation remained low at 0.7% in November and 1.3% in December 2025, with a recent uptick expected on account of rising metal prices. Better agriculture output and contained energy prices suggest that inflation will stay low even if it is rising from the current lows. The CPI inflation for FY26 is now projected at 2.1%, and for Q4 at 3.2%. The outlook for CPI inflation in Q1 and Q2 FY27 continues to be benign. CPI inflation for Q1 and Q2 FY27 are projected at 4.0 % and 4.2% respectively, with a momentum reinforced by precious metal prices.
On the development and regulatory policy front, the list of announcements is long. The regulations have focused on reforming the current practice on cross-selling, methods of loan recovery using agents, and a framework for compensation in case of small-value fraudulent transactions. A discussion paper on curbing frauds in digital payment, exploring the introduction of calibrated safeguards in digital payments such as the introduction of lagged credits, is likely.
The RBI has permitted lending to real estate investment trusts (REITs) in line with infrastructure investment trusts. Banks can lend to the projects on an operational phase through REITs or take equity. This provision is a positive development and supports the Budget announcement for monetising central public sector enterprise assets through the REIT structure and flow of fund to the sector.
Furthermore, branch expansion of gold-lending non-banking financial companies has been liberalised as the price of primary collateral has risen, implying limited risk. Lending norms for urban cooperative banks will be reformed for better flow of credit to the sector, and they will also be supplemented by capacity building through a large number of physical training programmes as well as a scalable learning platform to cover about 1.40 lakh participants across all functions.
On financial inclusion, there has been a plethora of announcements linked to the Lead Bank Scheme, Kisan Credit Card, and business correspondents. Revisions in the Lead Bank Scheme will aim to streamline the operational aspects and launch a unified portal for reporting bank-wise data that is currently fragmented across portals. The KCC scheme will be reviewed to expand coverage, and streamline operational aspects and extension of tenure to six years. Similarly, the business correspondent model will be revised in line with a committee’s recommendations. In a major announcement, the RBI has decided to enhance the limit of collateral-free loans to micro and small enterprises from Rs 10 lakh to Rs 20 lakh.
The development of financial markets has the imprint of the Budget. Focusing on debt markets, a regulatory framework to enable the introduction of derivatives on credit indices, and total return swaps on corporate bonds will be introduced, and further investments under the Voluntary Retention Route shall now be reckoned under the limit for foreign portfolio investments under the General Route, thereby enhancing liquidity in the bond segment.
Before concluding, the following points are in order. After the policy announcement, bond yields hardened by close to 10 basis points and the rupee also depreciated further.
In fact, the governor, in his post-policy statements, painstakingly emphasised that the RBI’s net borrowings have barely moved up in FY27 and it is the metric that the bond markets should look into. The Centre’s net borrowing in FY21, owing to the pandemic, had increased to Rs 11.4 lakh crore and has hardly moved to Rs 11.7 lakh crore in FY27. From that perspective, borrowing numbers do not look large. The market has been expecting some reforms in the state development loan market, which will possibly happen as stated in the 16th Finance Commission report. Also, the RBI has stressed that buyback, once announced, will pull down gross borrowings. We believe yields could move down over time as there is greater clarity on gross borrowings.
Beyond yield movements, the liquidity coverage ratio (LCR) of many banks has now dipped below 120 and is facing increasing pressure with a widening gap between deposit and credit. The dip in LCR is also because of preferences of select banks for wholesale deposit mobilisation that has a higher run-off factor than retail deposits.
Against these developments, addressing market microstructure is now more important than liquidity management—the RBI has again emphasised that it will continue to be proactive. We believe in (a) not conducting the variable rate reverse repo under any circumstances now, even though call rates have moved below the policy rate; (b) doing more of the 90-day variable rate repo that will help banks in computing LCR; (c) carefully looking at yield cut-offs at auctions so that it gives proper signals to markets and ensure the yields are in control; and (d) the RBI not immediately recouping forex dollars as it might signal a depreciating bias for currency.
In all, FY26 has ended on a cautious note. The rate pause was dictated by multiple factors, besides macroeconomic ones. The change of guard at the Federal Reserve and the impact of geopolitical risks on price formation are still panning out. With a new CPI series, the trajectory of inflation will need to be monitored before taking a call in FY27.