RBI Monetary Policy: Whatever it takes to defend the Rupee and attract foreign capital

The clear message from the Reserve Bank of India (RBI) Governor Sanjay Malhotra was whatever it takes to preserve orderly market conditions. The central bank left its benchmark repo rate on hold, while announcing a slew of measures to attract foreign capital, amid the current geopolitical uncertainty that has led to massive selling by foreign portfolio investors.

On the rates front, the RBI monetary policy committee voted unanimously to keep the repo rate, essentially the rate at which it lends money to commercial banks, unchanged at 5.25 per cent. The Monetary Policy Committee (MPC) also retained the neutral policy stance.

However, the inflation forecast has been raised on the back of high oil prices and growth forecast lowered. It's perhaps an indication that while it may have decided to wait and see how the West Asia conflict and, in turn, oil prices and supply-side disruptions pan out, it may have to act on rates down the road.

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"The underlying inflation pressures continue to remain benign at this juncture. However, generalisation of inflation through second-round effects on expectations and wages is a distinct possibility, warranting a close vigil. The outlook also remains clouded due to the sub­normal south-west monsoon forecast and El Niño risks," Malhotra warned.

RBI has raised the CPI inflation forecast for the year ending March 2027 to 5.1% from 4.6% projected earlier. GDP growth forecast for 2026-27, meanwhile, has been lowered to 6.6% from 6.9%.

Speaking with reporters, he said the major concern currently was the uncertainty around how long the supply disruptions continue and what impact it has on prices.

The MPC would remain data dependent on the future course of action, he said.

"We wait and see whether the effect of this supply shock persists or whether it's going to wane away. We will be watchful," he said.

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Attracting Foreign Capital

While the policy may have been a status quo, and most analysts had expected it to be so, there were several measures RBI announced towards attracting foreign capital.

The measures come in the backdrop of a sharp sell-off by foreign portfolio investors from India's capital markets amid the West Asia crisis. The FPI pullout put added pressure on the rupee, which hit a record low near 97 to the US dollar, before pulling back following interventions by RBI and some cool off in oil price.

The RBI has now announced several measures to boost flows.

Key among them is that the RBI is expanding the universe of ‘specified securities’ under the Fully Accessible Route (FAR), by including all new issuances of 15-, 30- and 40-year tenor Government Securities (G-Sec). Additionally, limits pertaining to short-term investment, concentration and individual securities on FPI investment under the General Route are being removed.

Capital gains tax

Simultaneously, the Centre on Friday announced FIIs would be exempt from capital gains tax on income earned from investments in G-Secs. Together, they could bring some additional flows into India's debt markets.

In a second measure to attract foreign flows, RBI said the limits for investments by Non-resident Indians (NRIs) and Overseas Citizens of India (OCIs) in equity instruments traded on the stock market without SEBI registration are being increased. Also, the same facility would be extended to all individual Persons Resident Outside India (PROIs) at par with NRIs and OCIs.

Separately, a facility of concessional foreign exchange swap will be provided till September 30, 2026 to incentivize external commercial borrowings (ECBs) by public sector undertakings.

Furthermore, a facility for bearing the full hedging cost shall be provided till September 30, 2026 to Authorised Dealer banks for raising fresh 3–5-year FCNR (B) deposits.

It has also proposed to restore exports proceeds realisation period from 15-months to 9-months, which should help in improving the timings of foreign exchange inflows in to the country.

"The central bank ticked all boxes to spur dollar inflows and stabilise the currency, signaling that all hands are on deck," pointed Radhika Rao, senior economist and executive director at DBS Bank.

Governor Malhotra is hopeful that these measures should help attract foreign flows into India.

"We are not targeting any particular amount, but we do expect healthy flows," he said.

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Notably, while announcing measures to bring in more foreign capital, Malhotra pointed that there was no measure under consideration to restrict capital flows out of the country to ease forex pressures. 

He reiterated that there were sufficient forex reserves, and that the central bank had not sold any gold to shore up its reserves, contrary to a recent report. 

Indranil Pan, chief economist at Yes Bank said that while it is difficult to exactly pin down the nature of inflows due to the measures announced by RBI, $35-$45 billion may be a decent estimate, almost enough to close the gap for the anticipated balance of payment gap for FY2027.

"The policy challenge is to address falling growth and rising inflation. RBI, with its pause today, has bought itself more time to understand the growth-inflation dynamics and probably did not want to immediately react with a rate hike to match its higher inflation forecasts," said Pan, adding all policy options are open.

Anitha Rangan, chief economist at RBL Bank feels the measures are a positive to attract flows, but "unless followed by rate hike, the effectiveness will be limited."