Another 50-75 bps repo rate cut possible after RBI delivers a 25 bps cut

Indranil Pan is the Chief Economist at Yes Bank

By Indranil Pan, Chief Economist at Yes Bank

The last time there was any movement on the repo rate was in February 2023 when the RBI had ended its hiking cycle, coming out of the pandemic led repo rate of 4.0%. The repo rate was held at 6.50% for a period of 24 months, the largest duration of a pause that was seen in any cycle. However, it may be indicated that this was a bit of a hawkish cut, given that there is no forward guidance on rates and the stance of the policy has been retained at “neutral”, that provides the flexibility to the RBI to react in either direction conditional on the evolving economic data.

The cut of 25 bps and the hold on the stance were unanimous. While it would be interesting to note the commentary of the MPC members (2 new members on the RBI side compared to the last policy) when the minutes of the meeting is published, the broad view that is likely to have prevailed is that, inflation is moving into better alignment with the target of 4%. Importantly, the vegetable prices in January have dropped by 19%, that is likely to lead to the next inflation reading of 4.3-4.4%. On the other hand, while the core inflation is moving up, it stays moderate at around the 3.6-3.7% mark. For FY26, the RBI points to an inflation print of 4.2%.

On the growth front, the Governor indicated that growth is likely to recover from here on but will remain quite muted from the last year’s 8.2%. Thus, with inflation moving lower and growth muted, there was some room that has opened for the monetary policy to be “less restrictive”.

Important to note – the stance has not changed to “accommodative” as was being expected by some segments of the market and stayed at “neutral”. This was an acknowledgement that the global atmosphere remains uncertain due to evolving new dimensions of global trade policy (Trump tariff actions) and repeated weather events. The expectations on the size and the pace of rate cuts in the US have receded and this has led to USD strengthening and heightening the financial market volatility. These are making policy choices for the EME economies difficult as they must contend with pressures on their currencies to depreciate, thereby adding to inflation risks. This is the principal reason why the Governor has refrained from providing any forward guidance.

Governor Malhotra pointed out “The MPC will take a decision in each of its future meetings, based on a fresh assessment of the macroeconomic outlook”. Further, it was highlighted that the “neutral stance” provides flexibility to the MPC to respond to evolving macroeconomic environment. He also did allude to the fact that the INR depreciation is not good for growth as also for imported inflation.

We expect the RBI to cut the repo rate again in April by 25 bps, armed with two more inflation prints of 4.4% and 4.2% (YES BANK model predictions for January and February). This however takes into consideration that there are no big announcements on tariff that comes from US. Note that the tariff imposition on Mexico and Canada has been put on hold for a month. But with the RBI having finally starting its rate cutting cycle, the debate now veers towards the extent of cuts that are possible. We try to answer this issue.

We think that the current rate cutting cycle may be shallow. A recent RBI study had estimated the natural real rate of interest for India in the range of 1.4%-1.9%. When asked at the press conference on the real rate of interest, the Governor indicated that it is currently around 150 bps and indicated some acknowledgement of these levels. Thus, we assume that if the growth does not slump and if the inflation also does not tank, a real rate of interest at 150 bps alongside RBI’s inflation forecast for FY26 at 4.2% means a terminal repo rate of 5.50-5.75%. Given this assessment, we see the possibility of another 50-75 bps repo rate cut by the RBI.

Contrary to the market expectation, no incremental liquidity measures were announced in Friday’s policy, even as the Governor reaffirmed that the RBI would monitor and act suitably to ensure that liquidity remains in comfortable zone. For now, we think that the RBI’s daily VRR and the other liquidity infusion measures (OMO, buy/sell swaps by RBI, 56-day VRR) has likely contained the liquidity deficit to reasonable levels so that the overnight money market rates are hugging the repo rate. This probably prevented the RBI from providing further liquidity infusion measures. Note that the last round of OMO (open market operation) is due for February 20. With no new liquidity measures, G-sec 10-year sold off post policy to 6.70% and is likely to remain in a tight narrow range till end-March. FY26 range seen at 6.30-6.50% on the back of more RBI rate cuts.