RBI hits pause as inflation plunges, US tariff heat soars

The Reserve Bank of India (RBI) left its benchmark interest rate unchanged at 5.5% on Wednesday, pausing after a 100-basis-point easing cycle this year, even as consumer inflation hit its lowest level since January 2019.

While price pressures have cooled sharply, driven by deflation in food items, the central bank warned that inflation could rise again later this year, prompting a wait-and-watch approach.

After a three-day meeting, the RBI’s Monetary Policy Committee (MPC) unanimously voted to maintain the repo rate at 5.5%, with the standing deposit facility and marginal standing facility rates also held steady at 5.25% and 5.75%, respectively.

The committee retained its “neutral” stance, signaling a preference to assess how the full impact of earlier rate cuts plays out before making further changes.

The decision comes against the backdrop of headline retail inflation falling to 2.1% in June, the lowest since 2019, after eight consecutive months of decline.

Food inflation slipped into negative territory, with double-digit deflation in vegetables and pulses, aided by a strong monsoon and healthy foodgrain buffers.

Despite the dramatic cooling in prices, the central bank remained cautious.

“CPI inflation is likely to rise above the 4% target from Q4 of 2025-26 onwards, as unfavorable base effects and demand-side factors come into play,” the MPC said in its statement.

The RBI now projects average inflation at 3.1% for FY26, but sees it rising to 4.4% in the final quarter and 4.9% in the first quarter of FY27.

Core inflation, which excludes food and fuel, inched up to 4.4% in June, partly due to higher gold prices.

On growth, RBI held its forecast for FY26 at 6.5%, citing resilient domestic demand, healthy rural consumption, and ongoing government capital spending.

It said economic activity was supported by “broad-based drivers,” though industrial growth had moderated and external demand remained uncertain.

Recent high-frequency indicators offer a mixed picture.

While tractor and two-wheeler sales, e-way bill generation, and manufacturing PMI data showed strength in the first quarter, urban discretionary spending remained subdued.

The July manufacturing PMI hit a 16-month high, but industrial output slowed, particularly in mining and electricity.

“While headline inflation is much lower than expected, it is largely due to volatile food prices and is set to rise towards the end of the year,” RBI governor Sanjay Malhotra said.

He added that the Indian economy “holds bright prospects in the changing world order, drawing on its inherent strength, robust fundamentals and comfortable buffers.”

The RBI’s decision to pause follows rate cuts in February, April, and June, marking the first easing cycle in five years.

According to the central bank, monetary transmission is gathering pace: fresh rupee loan rates have dropped by 71 basis points between February and June, and deposit rates have declined by nearly 90 basis points.

Malhotra said the impact of these moves was “still unfolding.”

The MPC noted that it will continue to monitor data closely and “wait for further transmission of the front-loaded rate cuts to the credit markets and the broader economy” before taking additional steps.

The RBI also pointed to rising external risks, including geopolitical tensions and US trade policy.

As India braces for a potential escalation in tariffs from the US, policymakers appear to be holding fire to preserve monetary flexibility.

“After delivering a cumulative 100 bps of rate cuts already this year, the Reserve Bank of India’s decision to hold the repo rate steady is a classic case of prudent ‘wait-and-watch,’” said Samantak Das, chief economist at JLL. “Given the significant uncertainty around global trade and tariffs, the central bank is choosing to keep its powder dry and observe how things unfold.”

For the real estate sector, Das said the steady rate environment gives developers and buyers greater clarity.

“This will continue to support the robust momentum in the housing segment, especially in the ₹1 crore and above category, where sales grew by ~6% y-o-y in H1 2025,” he said. But he added that the mass segment, which has seen a 32% drop in sales over the same period, would require full pass-through of past rate cuts to revive.

Rajani Sinha, chief economist at CareEdge, noted that while the RBI’s full-year inflation forecast has come down, “CPI inflation is projected to rise above 4% in Q4 FY26 and average above 4.5% in FY27… This implies that next year we are looking at a real interest rate in the range of 1–1.5%, and it can even go lower.” That, she said, limits the scope for further easing.

Madhavi Arora, chief economist at Emkay Global, said the RBI’s focus on one-year-ahead inflation expectations, which remain above 4%, explains the hold decision, despite falling headline inflation.

However, she noted that such a focus may be “increasingly misplaced in an evolving world,” particularly as Asia trends toward a more disinflationary outlook.

The next meeting of the RBI’s Monetary Policy Committee is scheduled for 29 September to 1 October.