Loans to get costlier as RBI hikes key rate to 5.5%; 1st increase in nearly 4 years

The Reserve Bank of India’s Monetary Policy Committee (MPC) on Wednesday raised the repo rate by 25 basis points to 5.50%, its first rate hike since February 2023, as it flagged rising inflation pressures and a challenging global economic environment.The MPC unanimously voted for the rate increase after its three-day meeting on October 5-7. It also changed its policy stance to “calibrated tightening”, signalling that the central bank is no longer considering rate cuts in the near term.RBI Governor Sanjay Malhotra said the decision was driven by the changing inflation outlook, even as the Indian economy remained resilient.“Inflation and its outlook are not as benign as they were last year,” Malhotra said, adding that headline CPI inflation is expected to average around 5.8% over the next three quarters, while inflation for the full financial year is projected at 4.4%.WHY RBI RAISED REPO RATEThe RBI's decision comes against a backdrop of higher global food and energy prices, financial market volatility and tighter global financial conditions.Malhotra said global growth remains resilient but is expected to slow this year, while rising energy and food prices are pushing global inflation higher and prompting monetary policy tightening by major central banks.He also pointed to lingering trade uncertainty, rising bond yields in advanced economies and an appreciating US dollar as factors keeping global financial markets nervous.“The MPC noted that the global context on account of geopolitical developments remains challenging,” Malhotra said.Despite these external pressures, the governor said the Indian economy remains strong and its momentum is broad-based.“Nonetheless, the Indian economy has been strong and the economic momentum remains broad-based. Moreover, the economy is expected to remain resilient,” he said.INFLATION IS THE KEY CONCERNThe MPC's decision was largely centred on the changing inflation outlook.Malhotra said there was some evidence of elevated inflation expectations and a broadening of price pressures, although there were still limited signs that supply-side pressures had become embedded in firms' pricing behaviour.The RBI also noted that monetary policy can take time to contain the second-round effects of supply shocks, including the impact on inflation expectations and pricing decisions by firms.“In this milieu, the MPC opined that recalibrating the policy rate is an imperative,” Malhotra said.The MPC also flagged risks from strong growth in monetary and credit aggregates, although it found limited evidence of demand-side inflationary pressures.RATE CUTS OFF THE TABLE FOR NOWThe change in stance to calibrated tightening is significant because it rules out a rate-cut cycle in the near term.Malhotra said the RBI's next moves would depend on how inflation and growth evolve, rather than signalling a predetermined series of rate hikes.“Given the current conditions, rate cuts are off the table in the near term and policy action ahead can only be a rate hike or a pause depending on the evolving conditions and the outlook,” he said.This means the RBI is not committing to further hikes immediately, but it is keeping the option open if inflationary pressures persist.“The duration and extent of the rate hike cycle, therefore, would be contingent on the actual growth, inflation developments and outlook,” Malhotra said. He added that the RBI would particularly watch underlying inflation, the extent to which price pressures broaden, second-round effects of supply shocks and demand conditions.- Ends