RBI must sharpen its policy focus on financial stability

The central bank’s monetary policy review in December comes at a time when inflation is benign and growth robust.

- SRINIVAS VARADARAJAN

A rate cut at the meeting has been signalled and is widely anticipated. Yet, in the current global and domestic backdrop, the case for caution is stronger than ever.

Based on recent guidance from the Reserve Bank of India (RBI), inflation is forecast at 2.6% for 2025-26, undershooting its 4% target. Growth remains firm, with RBI projecting the Indian economy to expand 6.8% this fiscal year. For the first quarter of 2026-27, RBI has forecast inflation and growth at 4.5% and 6.4%, respectively. These projections indicate price pressures inching up while the economy continues to operate close to its potential.

Central banks rely on rule-based frameworks to guide monetary policy decisions. These frameworks link their policy rates to deviations in inflation and growth from their respective targets, providing a disciplined way of assessing whether monetary conditions are loose or tight. Monetary policy operates with a lag and applying such a framework to RBI’s current forecasts suggests that its rate is appropriate as we approach a new fiscal year. A formula that uses deviations of RBI's inflation and growth forecasts from its inflation target and the economy’s potential output shows that today’s repo rate of 5.5% implies a real rate of 0.8%, which seems fine.