Practical pause: Regulatory interventions will help ease of doing business

Theoretically, economic growth, surprising on the upside with benign inflation outcomes, is a desirable position for central banks. However, what makes life challenging for modern central bankers is the persistent uncertainty, owing to one cause or another. Given the uncertain economic backdrop and recent policy interventions, the Monetary Policy Committee (MPC) of the Reserve Bank of India (RBI) on Wednesday rightly decided to leave the policy repo rate unchanged at 5.5 per cent. Some market participants were expecting a 25-basis-point cut. However, the MPC decided to wait for the impact of recent policy interventions to play out before deciding the next course of action. Policy transmission in the bond market, for instance, has been weak. Interestingly, the MPC in its statement has noted that the current macroeconomic conditions and outlook have opened up space for supporting growth. 

The consumer price index-based inflation rate has been lower than the RBI’s projections in recent months. As a result, the MPC has revised its inflation projection for this financial year to 2.6 per cent, as against 3.7 per cent in the June policy. However, since monetary policy needs to be forward-looking, it is important to consider how inflation is expected to behave in the coming quarters. The Monetary Policy Report, also released on Wednesday, shows that the inflation rate is projected to average 4.5 per cent in 2026-27, with the third-quarter reading above 5 per cent. With the repo rate at 5.5 per cent and the inflation rate projected at 4.5 per cent for next financial year, policy space can open up only if inflation projections are revised significantly lower in the coming months, or if the MPC is comfortable with the real policy rate falling below 1 per cent. Pushing the real policy rate below 1 per cent will need a sound explanation. The committee expects gross domestic product (GDP) to expand at 6.6 per cent in 2026-27, marginally lower than the 6.8 per cent projected for 2025-26. The MPC on Wednesday revised this financial year’s GDP growth projection to 6.8 per cent from 6.5 per cent, largely on account of higher than expected growth in the first quarter.  Growth is likely to slow in the second half of the year. Overall, the statement on policy space should not be interpreted as a sure sign of a coming rate cut. A lot will depend on how things move in the coming months.  

Aside from the monetary policy, the RBI announced several regulatory decisions with a significant bearing on the banking sector. It will give a glide path for the adoption of the expected credit-loss framework, which will help banks adjust to the new regime. The banking regulator also proposed implementing the revised Basel-III capital adequacy norms effective from April 1, 2027. Further, the RBI has proposed to introduce a risk-based deposit insurance premium. This should incentivise banks to improve their risk-management systems. The regulator is also removing restrictions on the overlapping business of banks and their group entities. The limit on lending against shares and the limit for initial public offering financing have also been increased substantially, which had remained static for several years. Importantly, as demanded by banks for some time, the RBI has proposed to provide an enabling framework for banks to finance acquisitions by Indian corporations. This will increase business opportunities for Indian banks — a gap that was being filled by foreign entities. On balance, the proposed regulatory intervention will improve the ease of doing business for banks without losing sight of banking and financial stability.