Do it yourself

The MPC noted the favorable domestic conditions like (i) inflation lower than estimates and closer to the lower bound of the policy tolerance limits; (ii) Robust growth, though below aspiration; (iii) transmission of the 100bps policy rate cuts continuing and its impact on the economy unfolding.

Urban consumer demand tepid, investment demand remains supported by govt capex

The MPC also noted that on the demand side: “Rural consumption remains resilient, while urban consumption revival, especially discretionary spending, is tepid.” However, “Fixed investment supported by buoyant government capex continues to support economic activity”.

Farm sector buoyant, services steady, industrial growth subdued

On the supply side, steady southwest monsoon is supporting kharif sowing, replenishing reservoir levels and boosting agriculture activity. Services activity also remains steady, though some high-frequency indicators recorded a modest expansion. Services PMI increased to an 11-month high of 60.5 in July 2025. Construction activity continues to exhibit resilience. However, growth in the industrial sector remained subdued and uneven across segments, pulled down by electricity and mining. While the manufacturing Purchasing Managers’ Index (PMI) remained elevated in Q1, the Index of Industrial Production (IIP) showed moderation.

Growth outlook strong, external challenges need to be watched closely

The MPC is of the view that the above normal southwest monsoon, lower inflation, rising capacity utilisation, and congenial financial conditions continue to support domestic economic activity.

The supportive monetary, regulatory and fiscal policies including robust government capital expenditure, should also boost demand. With sustained growth in construction and trade segments, the services sector is expected to remain buoyant in the coming months.

Prospects of external demand, however, remain uncertain amidst ongoing tariff announcements and trade negotiations. The headwinds emanating from prolonged geopolitical tensions, persisting global uncertainties, and volatility in global financial markets pose risks to the growth outlook.

The MPC maintained FY26 real GDP growth forecast at 6.5%.

Inflation to remain benign in FY26, to pick up in 1QFY27 on low base

The MPC that the inflation outlook for FY26 has become even more benign. Large favorable base effects combined with steady progress of the southwest monsoon, healthy kharif sowing, adequate reservoir levels and comfortable buffer stocks of foodgrains have contributed to this moderation.

CPI inflation, however, is likely to edge up above 4 per cent in Q4:2025-26 and beyond, as unfavorable base effects, and demand side factors from policy actions come into play. Barring any major negative shock to input prices, core inflation is likely to remain moderately above 4 per cent during the year. Weather-related shocks pose risks to inflation outlook. Considering all these factors, CPI inflation for FY26 is now projected at 3.1 per cent. CPI inflation for Q1FY27 is projected at 4.9 per cent with evenly balanced risks.

External sector resilient

India’s current account deficit (CAD) moderated to 0.6 per cent of GDP in FY25 from 0.7 per cent of GDP in FY24 due to robust services exports and strong remittances receipts despite higher merchandise trade deficit. Merchandise trade deficit further widened in Q1FY26. Robust services exports coupled with strong remittance receipts are expected to keep CAD within the sustainable level during the current financial year.

On the external financing side, gross foreign direct investment (FDI) to India remained strong during April-May 2025. However, net FDI moderated during this period due to higher outward FDI.

Foreign portfolio investment (FPI) inflows to EMEs have remained strong in May and June 2025. However, net FPI to India recorded outflows of US$ 0.8 billion in April-July 2025 due to outflows in the debt segment.

External commercial borrowings, on the other hand, witnessed higher net inflows compared to last year. Inflows under non-resident deposits too remained positive, albeit witnessing some moderation.

As on August 1, 2025, India’s foreign exchange reserves stood at US$ 688.9 billion, sufficient to cover more than 11 months of merchandise imports.

Overall, India’s external sector remains resilient.25 We remain confident of meeting our external financing requirements comfortably.

Liquidity remains comfortable, monetary transmission underway

System liquidity, as measured by the net position under the Liquidity Adjustment Facility (LAF), has been in surplus, on an average of ₹3.0 lakh crore per day since the last MPC, as compared to an average daily surplus of ₹1.6 lakh crore during the previous two months.

Going ahead, as the CRR cut announced in the last policy comes into effect in a staggered manner beginning September, it would further support liquidity conditions.

The comfortable liquidity in the banking system has reinforced transmission of the policy repo rate cuts to the money, bond and credit markets during the current easing cycle. In the credit market, the weighted average lending rate (WALR) of scheduled commercial banks declined by 71 basis points for fresh rupee loans (of which 55 bps is due to interest rate reduction) and 39 basis points for outstanding rupee loans from February 2025 to June 2025. On the deposit side, the weighted average domestic term deposit rate (WADTDR) on fresh deposits moderated by 87 bps during the same period. Moreover, the transmission to lending rates has been broad based across sectors.

Conclusion

In my view, the MPC sounded quite confident about the economic and monetary conditions. However, it repeatedly cited external geopolitical and trade related threat posing strong headwinds. I therefore read the latest pause on policy rates as a measure to preserve arsenal for a final push if the external environment worsens materially.

On Wednesday, the US president announced 25% extra (penal) tariffs on the imports from India, making the total tariffs to 50%, materially higher than the competitors. If a resolution to the latest implied sanctions on India, purportedly for importing crude oil from Russia, is not found, there could be significant pain in the economy in the near-term, till the policy, businesses and markets adjust to the new tariff regime.

Policy rates cut by 50bps to support growth

The Monetary Policy Committee (MPC) reduced the policy repo rate by 50 bps to 5.50%, a larger-than-expected cut compared to market expectations of a 25bps reduction. This was the third consecutive rate cut in 2025, following reductions in February (6.5% to 6.25%) and April (6.25% to 6.00%). Consequently, the Standing Deposit Facility (SDF) rate was adjusted to 5.25%, and the Marginal Standing Facility (MSF) rate and Bank Rate to 5.75%.

This sharp cut in rates is aimed at accelerating the growth. Pertinent to note that FY25 real GDP grew by 6.5% yoy, and is expected to grow at a similar or lower rate in FY26. Considering the fragile global conditions, it is imperative to support the domestic economy maintaining a healthy growth momentum.

The rate cuts are expected to stimulate credit demand, private consumption and capex demand. At least four public sector banks (BoB, PNB, BOI, UCO) have reportedly cut their repo linked lending rates by a matching 50bps.

Cash Reserve Ratio (CRR) requirement reduced by 100bps

The RBI decided to lower the CRR for scheduled commercial banks by 100 bps to 3.0% of Net Demand and Time Liabilities (NDTL). This cut will be implemented in four tranches of 25bps each, starting September 6, 2025, through November 29, 2025. This aims to enhance liquidity in the banking system.

This 100bps cut in the CRR would potentially release an additional Rs2.5 trillion liquidity in the banking system in the busy season. Notably, the RBI has taken several steps in the past few months to augment the banking system liquidity. Since January 2025, the RBI has infused Rs9.5 trillion in additional liquidity in the system; resulting in a system liquidity surplus of over Rs 1.5 trillion.

Policy stance changed to ‘neutral’ from ‘accommodative’

The MPC shifted its stance from “accommodative” to “neutral,” signaling a cautious approach to further rate cuts and a potential pause in the rate-cutting cycle.

FY 26 growth forecast maintained at 6.5%, despite substantial monetary easing

The RBI maintained its real GDP growth forecast for FY26 at 6.5% yoy, the same as FY25. This highlights the challenges faced by the Indian economy presently, both from the global disturbances and domestic conditions.

The RBI sees CPI Inflation at 3.7% for FY26, down from previous forecast of 4% and below its tolerance band of 4 to 6%. This clearly reflects RBI’s optimism about price stability.

Despite substantial monetary easing, a favorable monsoon, stable fiscal balance, and strong government capital expenditure, the domestic growth is not expected to accelerate from the current pace.

The question thus arises, whether this boldness of the RBI is emanating from the confidence in the resilience of the economy and its commitment to stimulate economic growth; or it is a move to preempt a slide in the economic growth due to the anticipated global trade and geopolitics related developments.

I do not have any ready answer for this inquisition. However, I shall be closely monitoring some of the pointers from Governor Malhotra’s statement. For example:

1.    In his opening remark, the Governor highlighted the global challenges – “complex interconnections within the financial system, elevated debt levels and growing influence of frontier technologies are raising financial stability concerns. Amidst heightened volatility in capital flows and exchange rates, coupled with constrained policy space, central banks of emerging market economies have a tougher task to stabilize their economies against global spillovers”.

Though, the governor confidently stated, “In this global milieu, the Indian economy presents a picture of strength, stability, and opportunity”; the global spillovers need to be watched carefully.

2.    The governor exuded confidence that the actual inflation may undershoot the RBI target, and this is one of the core reasons for the bold policy move. He stated, “While food inflation outlook remains soft, core inflation is expected to remain benign with easing of international commodity prices in line with the anticipated global growth slowdown (emphasis supplied). The inflation outlook for the year is being revised downwards from the earlier forecast of 4.0 per cent to 3.7 per cent.

A quicker resolution of trade disputes and geopolitical conflicts might change this outlook, as the global growth might accelerate and commodity prices may rise. Also, an excessive monsoon may cause vegetable prices to rise faster than anticipated.

3.    The governor emphasized that “under the current circumstances, monetary policy is left with very limited space to support growth. Hence, the MPC also decided to change the stance from accommodative to neutral. From here onwards, the MPC will be carefully assessing the incoming data and the evolving outlook to chart out the future course of monetary policy in order to strike the right growth-inflation balance.”

Though many analysts are expecting more rate cuts later this year, the governor appears to be suggesting otherwise.

4.    The governor pointed out that “we are yet to see a perceptible transmission in the credit market segment, though we must keep in mind that it happens with some lag”.

We have witnessed that the banks have been reluctant to transmit the previous rate cuts to the borrowers. In the present case also, while the repo linked rates are getting adjusted, the action in case of MCLR based loans is limited. HDFC Bank for example has cut only by 10bps post the policy statement.

A failure to ensure full transmission may defeat the objective of RBI’s aggressive easing.

5.    The governor warned that “The stress witnessed earlier in retail segments like unsecured personal loans and credit card receivables portfolio has abated, while the stress in micro-finance segment is persisting”.

The stress in MFI is typical of elevated stress in the unorganized segment of the economy, especially rural and semi urban areas. This stress also has some relevance for private consumption.

6.    The governor also sought to end the growth vs inflation debate, stating that “there is no tussle between price stability and growth in the medium and long term. Price stability preserves purchasing power, imparts certainty to households and businesses in their savings and investment decisions and ensures congenial interest rate and financial conditions, all of which foster consumption, investment and overall activity. Moreover, it is crucial for equitable growth and shared prosperity because its absence is disproportionately burdensome on the poor”.

This is a new policy paradigm for the RBI, more aligned to the political narrative than the central banking. We will have to monitor how consistently the RBI follows this new tenet of monetary policy.

Conclusion

The 50bps rate cut demonstrates the RBI’s commitment to growth amid global headwinds. The CRR reduction is a significant liquidity booster for banks. This will augment credit availability for MSMEs and retail borrowers. The downward revision of the FY26 inflation forecast to 3.7% reflects confidence in price stability. Emphasis on recalibrating business models in high-risk segments (e.g., microfinance) and strengthening credit underwriting practices indicates proactive risk management.

The shift to a neutral stance suggests the RBI believes monetary policy has limited room to support growth further, as noted in the policy statement. This could constrain future responses if economic conditions deteriorate.

Further, the RBI has limited control over supply-side inflation, driven by commodity prices and fiscal policy. If supply constraints re-emerge, the RBI’s ability to maintain inflation within the 4% target could be tested, potentially forcing a policy reversal.

Besides, rapid rate cuts and liquidity injections could lead to overheating in certain sectors, such as real estate or consumer credit, if not monitored closely.

Deposit rates that have already been declining may decline further, impacting the savers, especially the pensioners, adversely. However, the pace of transmission of rate cuts lender is still not congruent with the policy objectives.

Also read

The state of the Indian economy

The Indian economy – glass half full

The Indian economy – glass half empty

In a post meeting press interaction, Fed Chairman Jerome Powell noted that “The unemployment rate has stabilized at a low level in recent months, labor market conditions remain solid, and Inflation remains somewhat elevated.” He further added that the Fed needs to see “real progress on inflation or some weakness in the labor market before we consider making adjustments.”

Most notably, he emphasized that we're meaningfully above the ‘neutral rate’. He said, “I have no illusion that anyone knows precisely how much that is and but having cut 100 basis points means that it's appropriate that we not be in a hurry to make further adjustments.” (‘Neutral rate’ is a fed rate that is considered neither stimulative nor restrictive of growth under the current circumstances.)

Higher for longer: The market participants have taken this to imply that the current rate cut cycle is certainly not over and may resume after a pause, as the Fed gathers more evidence on inflation. Nonetheless, analysts now appear less sanguine about the lower bound of the present rate cut cycle. The consensus amongst them is emerging that the long-term bottom rate may have risen to 3% from the earlier estimates 2.5%. The ‘Fed pause’ is also being influenced by uncertainties surrounding the new administration's direction - on fiscal, trade, and government spending matters. The Fed officials noted “they don't intend to react until policies reach the implementation stage and begin to impact incoming economic data”.

Markets: Post the Fed decision, stock prices ended lower (S&P500 -0.5%), USD marginally stronger (DXY +0.2%) and benchmark bonds stronger (US 10yr Yield -0.37%).

RBI: The ‘Fed pause’ has made the February 06^th rate cut by the Monetary Policy Committee (MPC) of the Reserve Bank of India (RBI), less certain. There are however more chances that RBI may change its stance to ‘accommodative’ from ‘withdrawal of accommodation’, signaling now growth is a priority over inflation.

Most medium sized farmers had a good standing crop of paddy and sugarcane. Most of them were, however, circumspect about the final yield, in view of the IMD’s forecast of excess rains in September.

Many small and marginal farmers had lost their pulses and vegetable crops due to heavy rains accompanied by strong winds. They were dismayed and worried about their ability to manage the resources to plant Rabi crops, mostly potato and wheat.

Some of them, who had taken advance from the traders, were also worried about the repayment. None of the small and marginal farmers mentioned the terms like crop insurance, bank loan, Kisan credit card, etc. Thankfully, there is an abundance of fodder for their cattle this time.

After a discussion of 10-12hrs with these farmers, NGO workers helping them with farming & other issues, and village leaders I gathered that the inflation debates in Delhi (in the Parliament & outside) and Mumbai (at the RBI and brokerage offices) may not be relevant for these farmers and common men like me, because—

·            Policymakers and analysts may be oversimplifying a very complex problem. Food inflation in India maybe influenced by a myriad of factors, e.g., (i) farm input prices, which are also affected by terms of trade, INR exchange rates, availability of subsidy, etc,; (ii) energy inflation as many farmers use electric or diesel pumps to water their farms, and motor vehicles to transport their produce to markets; (iii) farm labor wages, which in turn is also a function of multiple factors like food and energy inflation, availability of MNREGA wages, & other government cash payouts, demand from construction sector, etc.; (iv) weather condition affecting the volume of production; (v) productivity, which depends on the quality of soil and inputs, farming methods used and availability of equipment; (vi) cost of funds borrowed by the farmers, which also depends on access to institutional finance; and (vii) distance from the market, etc.

Bringing down food prices or slowing down food inflation may adversely impact about 60% of the Indian population that depends (directly or indirectly) on agriculture for their livelihood. The solution may therefore lie in enhancing productivity, market access, access to institutional finance, energy efficiency & renewable energy, land reforms and crop rationalization. Someone may argue that all this is already being done. True, there are government programs and policies for all these solutions but execution is seriously lacking.

·            Presently, the primary problem for a majority of the Indian household could be “price affordability” rather than “price inflation”. They may need either a substantial rise in their real wages or a material deflation in the prices of their consumption basket to maintain their regular lifestyle.

·            Statistical inflation being debated and analyzed by the policymakers and analysts may be entirely different from what a common household or investor faces (more on this later).

Reading minutes of the MPC’s previous few meetings, it appears that the policymakers might be waiting for a divine intervention to change their policy stance, as hardly any effective step has been taken by them to make life of people easier.

These comments read with the minutes of the last meeting of the Federal Open Market Committee (FOMC) provide adequate ground to believe that—

(i)      The current rate cycle has peaked out; and the next policy move will be a rate cut.

(ii)     The policymakers are confident the spike in inflation that occurred in the aftermath of Covid-19 pandemic (massive cash stimulus fueling demand and logistic challenges causing break in global supply chains) has been successfully tamed.

(iii)   The economy is no longer overheated as the pandemic stimuli have been gradually withdrawn, the job market has cooled down, and commodity prices are behaving normally.

Though Mr. Powell did not make it clear that the FOMC will cut rate in the next meeting scheduled to be held on 17-18^h September 2024; the market consensus is assuming it to be a certainty. The debate is now circling around how aggressive the Fed could be in their pursuit of policy easing. Though, Mr. Powell emphasized that the rate cut will be data driven, a majority of market participants are expecting a 25bps cut each on 18^th September, 7^th November and 18 December. Some aggressive estimates are building 50bps cut each in September and December.

I am not competent to comment on the dynamics of the US monetary policy and its implications for the global economy and markets. My concern at this time is limited to how does the likely change in the Fed’s policy stance affects my tine portfolio of investments, if at all.

In this context I note that—

·            In its last meeting, the Monetary Policy Committee of the RBI retained its policy stance of withdrawal of accommodation and maintained the status quo on policy rates by a four to two majority vote.

One of the dissenting members, emphasized that “Global uncertainties continue. The Fed, in indicating a cut in its September meeting, pointed out that since monetary policy acts with a lag they can't afford to wait until they reach their inflation target before cutting. That lag may be responsible for the sharply adverse August jobs report that has stoked recession fears and created market volatility. That a series of small signals were ignored, may have led to a critical large one. Monetary policy needs to act well in time. Spillovers led the global manufacturing PMI into contraction zone in July at 49.7.” (See here)

The other dissenting member was even forceful in his dissent, stressing, “For the last several meetings, I have been expressing concerns about the unacceptable growth sacrifice induced by a monetary policy that is excessively restrictive. The majority of the MPC however do not share this concern, perhaps because they think that the Indian economy is already growing at close to its potential growth rate. I think that such a view reflects (a) an unwarranted pessimism about the growth potential of the economy and (b) an overly sanguine expectation about growth in ensuing quarters. I disagree with both prongs of this assessment.” (See here)

This clearly highlights that despite being warned of the perils of running behind the curve and impairing the growth potential, the MPC decided to retain its stance. Maybe the RBI is not as sanguine about the price stability and growth potential as some of the members of the MPC.

·            The fourteen-month gap (July 2023 to September 2024) between the Fed pause and the first cut would be the second longest in the past five decades. The markets have been anticipating a Fed rate cut for almost a year now.

In this period, the stock markets, both the US and the Indian, have not witnessed any meaningful correction and are already at an all time high level. The question is whether the anticipated rate cut would provide immediate impetus to the markets; or the markets will be worried about further deterioration in economic growth.

It is pertinent to note that empirical evidence suggests that in the past three rate cycles, the US market has fallen 12 to 50% during the Fed rate cuts.

·         The governments in the US and India are not in a position to back up the monetary policy easing with fiscal stimuli.

Under the circumstances, for now I am more inclined to assume that:

·         It is not certain that the RBI will immediately follow the US Fed in cutting rates, unless strong evidence of growth collapsing emerges. Rise in the yield differential may attract stronger flows and support USDINR and markets.

·         A weaker USD may support commodity prices

·         A panic cut by RBI on the other hand may adversely affect the margins of banks (loans get repriced immediately while deposits take longer; CD ratio faces further pressure); and also affect the overall sentiments.

·         The earnings momentum appears to have slowed down in 1QFY25. A sharp cut by RBI might arrest the slowdown in earnings momentum; and also help higher equity valuations to sustain.

·         Negative real rates may adversely affect savers (consumption) and support capex.

I will review my portfolio in accordance with these assumptions in the next review. For now, I am just staying put.

I am however not sensing any imminent rate cut, for the following simple reasons.

(i)      The headline inflation number is significantly impacted by a strong base effect, as the CPI inflation in the base period (July 2023) was 7.4%. Sequentially, the inflation has risen 1.42% MoM in July 2024 against 1.33% MoM rise in June 2024. As of now, there is no indication of a sustainable decline in inflation trajectory.

(ii)     Core CPI inflation in July 2024 was 3.3% against 3.1% in the preceding two months. This is the first rise in core CPI after twelve months of consistent decline.

(iii)   Food inflation remained sticky, rising 2.47% in July 2024 after a 2.69% rise in June 2024. Vegetable prices were higher by 14% MoM in July 2024. It is pertinent to recall that the RBI governor laid significant emphasis on food inflation in his bi-monthly monetary policy statement.

The governor stated, “our target is the headline inflation wherein food inflation has a weight of about 46 per cent. With this high share of food in the consumption basket, food inflation pressures cannot be ignored. Further, the public at large understands inflation more in terms of food inflation than the other components of headline inflation. Therefore, we cannot and should not become complacent merely because core inflation has fallen considerably”.

He further added, “high food inflation adversely affects household inflation expectations, which have a significant impact on future trajectory of inflation. Household inflation expectations, after witnessing a moderating trend between May 2022 and September 2023, have edged up on the back of high food inflation since November 2023.35 Persistently high food inflation and unanchored inflation expectations – if they materialise – could lead to spillovers to core inflation through pick-up in wages on cost-of-living considerations. This, in turn, could be passed on by firms in the form of higher prices for services as well as goods, especially in a scenario of strong aggregate demand. Third, these behavioural changes can then result in overall inflation becoming sticky, even after food inflation recedes.”

He categorically admitted that “The MPC may look through high food inflation if it is transitory; but in an environment of persisting high food inflation, as we are experiencing now, the MPC cannot afford to do so. It has to remain vigilant to prevent spillovers or second round effects from persistent food inflation and preserve the gains made so far in monetary policy credibility.”

(iv)    As per the latest Households’ Inflation Expectation Survey (August 2024), A larger share of households expects higher general prices and inflation as compared to the previous survey round. Households’ median perception of current inflation rose by 20bps to 8.2% in the latest survey round; their inflation expectations for the three months and one year ahead periods also increased by 20bps each.

The market trends in August indicate that vegetable prices have recorded material rise in the month of August also due to crop damage by excess rains and logistic issues. It is therefor likely that August food inflation may come even higher. Expecting any rate cut on 9^th October may therefore not be reasonable; unless the US Fed cuts dramatically in September, raising the
specter of recession.