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India's interest rate gap with major developed economies has emerged as an important consideration for monetary policy as the Reserve Bank of India (RBI) faces rising inflation risks, according to a report by YES Bank.
The report highlighted the importance of maintaining a certain difference between Indian and G7 interest rates to attract foreign debt capital, particularly as the US Federal Reserve is expected to continue its rate-hiking cycle. External member of the RBI's Monetary Policy Committee (MPC), Saugata Bhattacharya, said that "maintaining a certain gap between India and G7 interest rates is important for attracting debt capital flows". The report said this consideration has become relevant alongside concerns about the domestic inflation outlook and the possibility of further increases in input costs being passed on to consumers. The minutes of the RBI's October MPC meeting highlighted growing inflation risks, with the central bank's inflation projection for the third quarter of FY27 reaching 6 per cent, the upper limit of its 2-6 per cent tolerance band. According to YES Bank, September inflation data showed a broader increase in prices, with both core inflation and core inflation excluding precious metals rising. The report also pointed to an increase in household inflation expectations and signs that businesses were passing higher input costs on to consumers. Saugata Bhattacharya also noted that demand pressures remained subdued, although the gap between actual economic activity and potential output appeared to be narrowing. Despite these inflation concerns, India's economic growth has remained resilient. The country recorded GDP growth of 7.8 per cent in the first quarter of FY27, supported by strong private consumption, a pickup in exports and continued momentum in the services sector. The report noted that some MPC members believe the RBI needs to respond in a timely manner to prevent current price pressures from spreading further across the economy. It also highlighted the risks posed by higher energy prices, supply-chain pressures and El Nio conditions to the growth outlook. Based on the inflation outlook and global monetary policy developments, YES Bank expects the RBI to increase its policy repo rate by a cumulative 50 basis points, with a 25-basis-point hike in December and another 25-basis-point increase in February. However, this remains the bank's forecast and not a decision announced by the RBI. The report's assessment highlights the challenge facing monetary policymakers: addressing rising domestic inflation while also considering how India's interest rate differential with major developed economies may affect foreign debt capital flows. (ANI)
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