Is the RBI fighting the wrong battle? Why rate hikes may not solve India’s current inflation problem
April 20, 2026
Rising oil prices due to the West Asia conflict have lifted inflation expectations, but underlying demand in India remains weak. Despite market signals pointing to possible rate hikes, historical trends and current macro conditions suggest the RBI may hold off, favouring supportive monetary policy amid fragile growth and supply-driven inflation pressures.
Synopsis
Rising oil prices due to the West Asia conflict have lifted inflation expectations, but underlying demand in India remains weak. Despite market signals pointing to possible rate hikes, historical trends and current macro conditions suggest the RBI may hold off, favouring supportive monetary policy amid fragile growth and supply-driven inflation pressures.
The ongoing West Asia war has triggered severe supply shocks and driven crude oil prices higher, leading to elevated inflation expectations. Consequently, financial markets are increasingly pricing in rate hikes, a shift primarily signalled by two key monetary indicators.
First, the spread between the 10-year G-sec yield and the repo rate has widened to ~165 basis points, which sits significantly above its decadal average of 100 bps. Historically, higher-than-average spreads strongly predict impending monetary tightening, much like the extreme 322 bps divergence seen in April 2022 that immediately preceded the May 2022 rate-hike cycle. Second, the Overnight Indexed Swap (OIS) term spread (5-year minus 1-year) has increased to ~60 bps, acting as another crucial leading indicator for policy decisions. This widening OIS spread indicates that the market is currently anticipating around 50 bps of rate hikes over the next year.
Current market tremors and INR depreciation are drawing inevitable comparisons to the 2013 Taper Tantrum. That episode saw a ~12.3% fall in the INR in 2013, as fears of tighter US monetary policy prompted severe capital flight from developing economies. However, today's economic environment differs fundamentally. In 2013, the economy faced demand-led inflation at the end of a private capex cycle, alongside a high current account deficit of 4.8%. In contrast, the current macroeconomic landscape features stagnant formal employment, uneven consumption, and war-driven supply-side disruptions, coupled with a much healthier current account deficit of ~1.1% of GDP.
We do not expect a rate hike cycle to begin in the near term. Historically, the RBI has avoided tightening monetary policy in advance of inflationary pressures. In its last three tightening cycles, the central bank raised interest rates only after core inflation remained above the 4% target for at least twelve months and crossed the 6% upper tolerance limit. At present, core inflation (when adjusted for gold and silver prices) is at a very benign level of ~2.1%, indicating a lack of demand-driven pressures, a view that has also been highlighted by the RBI Governor.
Furthermore, recent MPC commentary remains dovish. In the April 2026 meeting, the RBI Governor projected FY27 headline inflation at 4.6%, maintaining that underlying demand-side inflationary pressures are benign. Previous MPC meeting minutes further reflect concerns over economic slack, with members warning that low inflation highlights a relatively weak demand environment.
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Finally, monetary and fiscal policies must work in tandem. In 2013, the government successfully paired rate hikes with restrictive fiscal policies. Today, confronting the West Asia crisis and ongoing supply dislocations, the government, as highlighted by the finance minister, possesses sufficient fiscal space to undertake counter-cyclical, expansionary spending and targeted sector support. A rate hike now would contradict this fiscally expansionary phase, risking a deeper economic slowdown by curbing vital credit for working capital and much-needed private capex.
Monetary policy needs to remain conducive as the economy faces several domestic vulnerabilities. In the formal sector, employment and wage growth are not seeing greater traction as they did post-Covid, which is moderating overall demand. Meanwhile, the informal sector is pressured by a combination of the West Asia war causing MSME closures and potential El Niño weather disruptions negatively impacting agricultural incomes. Furthermore, as banks shift towards more calibrated retail lending, we do not expect the same kind of leveraged consumption that previously fuelled economic growth. Due to these domestic and global uncertainties, a rate hike would not be a good signalling measure, as one would want a more conducive monetary environment for the private capex cycle to revive.
(Nitin Bhasin is Head of Institutional Equities at Ambit)
(Disclaimer: Recommendations, suggestions, views, and opinions given by the experts are their own. These do not represent the views of The Economic Times)
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(Disclaimer: The opinions expressed in this column are that of the writer. The facts and opinions expressed here do not reflect the views of www.economictimes.com.)
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Rising oil prices due to the West Asia conflict have lifted inflation expectations, but underlying demand in India remains weak. Despite market signals pointing to possible rate hikes, historical trends and current macro conditions suggest the RBI may hold off, favouring supportive monetary policy amid fragile growth and supply-driven inflation pressures.
The ongoing West Asia war has triggered severe supply shocks and driven crude oil prices higher, leading to elevated inflation expectations. Consequently, financial markets are increasingly pricing in rate hikes, a shift primarily signalled by two key monetary indicators.
First, the spread between the 10-year G-sec yield and the repo rate has widened to ~165 basis points, which sits significantly above its decadal average of 100 bps. Historically, higher-than-average spreads strongly predict impending monetary tightening, much like the extreme 322 bps divergence seen in April 2022 that immediately preceded the May 2022 rate-hike cycle. Second, the Overnight Indexed Swap (OIS) term spread (5-year minus 1-year) has increased to ~60 bps, acting as another crucial leading indicator for policy decisions. This widening OIS spread indicates that the market is currently anticipating around 50 bps of rate hikes over the next year.
Current market tremors and INR depreciation are drawing inevitable comparisons to the 2013 Taper Tantrum. That episode saw a ~12.3% fall in the INR in 2013, as fears of tighter US monetary policy prompted severe capital flight from developing economies. However, today's economic environment differs fundamentally. In 2013, the economy faced demand-led inflation at the end of a private capex cycle, alongside a high current account deficit of 4.8%. In contrast, the current macroeconomic landscape features stagnant formal employment, uneven consumption, and war-driven supply-side disruptions, coupled with a much healthier current account deficit of ~1.1% of GDP.
We do not expect a rate hike cycle to begin in the near term. Historically, the RBI has avoided tightening monetary policy in advance of inflationary pressures. In its last three tightening cycles, the central bank raised interest rates only after core inflation remained above the 4% target for at least twelve months and crossed the 6% upper tolerance limit. At present, core inflation (when adjusted for gold and silver prices) is at a very benign level of ~2.1%, indicating a lack of demand-driven pressures, a view that has also been highlighted by the RBI Governor.
Furthermore, recent MPC commentary remains dovish. In the April 2026 meeting, the RBI Governor projected FY27 headline inflation at 4.6%, maintaining that underlying demand-side inflationary pressures are benign. Previous MPC meeting minutes further reflect concerns over economic slack, with members warning that low inflation highlights a relatively weak demand environment.
Live Events
Finally, monetary and fiscal policies must work in tandem. In 2013, the government successfully paired rate hikes with restrictive fiscal policies. Today, confronting the West Asia crisis and ongoing supply dislocations, the government, as highlighted by the finance minister, possesses sufficient fiscal space to undertake counter-cyclical, expansionary spending and targeted sector support. A rate hike now would contradict this fiscally expansionary phase, risking a deeper economic slowdown by curbing vital credit for working capital and much-needed private capex.
Monetary policy needs to remain conducive as the economy faces several domestic vulnerabilities. In the formal sector, employment and wage growth are not seeing greater traction as they did post-Covid, which is moderating overall demand. Meanwhile, the informal sector is pressured by a combination of the West Asia war causing MSME closures and potential El Niño weather disruptions negatively impacting agricultural incomes. Furthermore, as banks shift towards more calibrated retail lending, we do not expect the same kind of leveraged consumption that previously fuelled economic growth. Due to these domestic and global uncertainties, a rate hike would not be a good signalling measure, as one would want a more conducive monetary environment for the private capex cycle to revive.
(Nitin Bhasin is Head of Institutional Equities at Ambit)
(Disclaimer: Recommendations, suggestions, views, and opinions given by the experts are their own. These do not represent the views of The Economic Times)
(You can now subscribe to our ETMarkets WhatsApp channel)
(Disclaimer: The opinions expressed in this column are that of the writer. The facts and opinions expressed here do not reflect the views of www.economictimes.com.)
(What's moving Sensex and Nifty Track latest market news, stock tips, Budget 2025, Share Market on Budget 2025 and expert advice, on ETMarkets. Also, ETMarkets.com is now on Telegram. For fastest news alerts on financial markets, investment strategies and stocks alerts, subscribe to our Telegram feeds .)
Subscribe to ET Prime and read the Economic Times ePaper Online.and Sensex Today.
Top Trending Stocks: SBI Share Price, Axis Bank Share Price, HDFC Bank Share Price, Infosys Share Price, Wipro Share Price, NTPC Share Price
...moreless
(You can now subscribe to our ETMarkets WhatsApp channel)
(What's moving Sensex and Nifty Track latest market news, stock tips, Budget 2025, Share Market on Budget 2025 and expert advice, on ETMarkets. Also, ETMarkets.com is now on Telegram. For fastest news alerts on financial markets, investment strategies and stocks alerts, subscribe to our Telegram feeds .)
Subscribe to ET Prime and read the Economic Times ePaper Online.and Sensex Today.
Top Trending Stocks: SBI Share Price, Axis Bank Share Price, HDFC Bank Share Price, Infosys Share Price, Wipro Share Price, NTPC Share Price
...moreless
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