Regulatory changes overshadow main monetary policy

As expected, the MPC held key rates steady despite further policy space available to cut rates. It however communicated its bias to ease while holding back to see the effects of front-loaded easing, fiscal steps, and trade uncertainty.

The key message of the MPC statement is clearly that domestic macro dynamics remain stable despite risks and economic activity continues to sustain momentum, even in Q2.

Policy space exists for a rate cut later

RBI’s assessment of resilient domestic economic activity, supported by strong private consumption, government consumption, and fixed investment, while acknowledging that ongoing tariff and trade policy uncertainties will impact external demand and pose downside risks to the growth outlook, is quite reassuring.

An above-normal southwest monsoon, congenial financial conditions, rising capacity utilisation, the government’s continued thrust on capital expenditure, and GST 2.0 reforms drive optimism in the growth outlook as well. On inflation, RBI’s assessment appeared to be quite optimistic based on the trends seen recently.

What really stood out thus was RBI’s higher growth projections for the year to 6.8% from 6.5% earlier and also lower CPI inflation projections, to 2.6% from 3.1% earlier, indicating available policy space to cut rates if needed.

Well covered on the external front

RBI Governor Sanjay Malhotra’s statement also emphasised the strong external position of the Indian economy despite some volatility in capital flows and domestic currency. Apart from indicating that India's external sector continues to be resilient and that they are keeping a close watch on the movements of the rupee and will take appropriate steps as warranted, he also outlined that RBI now holds a record 880 metric tonnes of gold, valued at over ₹4.32 lakh crore, and India’s forex reserves at $700.2 billion are enough to cover 11 months of imports.

Highlight was the regulatory easing

The main announcements yesterday turned out to be the number of regulatory measures aimed at improving the flow of credit, foreign exchange management, customer protection, and financial markets.

At an unprecedented count of 22 measures, these seem to indicate RBI’s belief that improving ease of credit flow may help drive credit growth more than rate cuts. Some of these measures include enabling a framework to finance acquisitions by Indian corporations, removing the regulatory ceiling on lending against listed debt securities to enhance lending flexibility, and reduction of risk weights applicable to lending by NBFCs to operational, high quality infrastructure projects.

Amongst other major announcements, the expected credit loss (ECL) framework is expected to take effect from 1 April 2027 and is likely to release more capital available for lending in short term. The revised BASEL III norms, particularly regarding credit risk on capital charge, will also be applicable by 1 April 2027.

This is likely to lower risk weights on segments such as MSME and real estate, aiding financial sector. Together with greater flexibility in bank operations in opening and operating current accounts, cash credit accounts, overdraft accounts, and other measures to boost banks’ business, these steps cement RBI’s views that the ability to lend more will help boost credit deployment and contribute to faster economic growth than immediate rate cuts. At the same time, a number of consumer centric proposals and a slew of measures for internationalising the Indian Rupee and easing norms for exporters indicated a continued focus on resolving structural issues towards a more efficient financial sector.

A key part of MPC messaging was the emphasis on policy consistency

Overall, though the monetary policy actions were on expected lines, a few points that are conspicuous are the RBI’s reassurance of strong domestic demand momentum, revised key projections on growth and inflation suggesting that there might be room for further policy easing if required, and a bias to ease via covert measures to increase the flow of credit in the economy.

Policy consistency was a big part of MPC messaging, along with the Governor’s emphasis of alignment in all domestic policies- fiscal, monetary, and regulatory towards Viksit Bharat goals. This has taken the focus away from short-term external headwinds towards domestic resilience and medium-term economic potential. At the same time, RBI’s cautious tone indicates that further rate cuts are unlikely in Q3 and possibly Q4 as well. Risk assets, particularly bond yields, are thus expected to remain range-bound, while equities may benefit from policy continuity.

(Rajni Thakur is Chief Economist, L&T Finance Ltd.)

Views are personal and do not represent the stand of this publication