RBI Monetary Policy 2025-26: Rate Cuts, Liquidity Measures and Economic Survey 2025-26 Analysis
The Reserve Bank of India's monetary policy stance in FY26 has been distinctly accommodative, marked by aggressive rate cuts and liquidity support measures. The Economic Survey 2025-26 examines these developments in the context of India's growth objectives and inflation dynamics. For UPSC aspirants, understanding monetary policy operations and their macroeconomic implications is essential, as this topic features prominently across economics papers.
Aggressive Rate Cuts: The Policy Shift
The Economic Survey 2025-26 notes that "the central bank cut interest rates aggressively and loosened liquidity conditions" during 2025. This represents a significant shift from the previous tightening cycle when RBI raised rates to combat post-pandemic inflation.
The accommodative stance reflects several factors. First, inflation has moderated sharply, with headline CPI declining to 1.7 per cent during April-December FY26 – the lowest in the current CPI series. With inflation well within the 2-6 per cent target band and trending toward the lower end, RBI had room to support growth without risking price stability.
Second, global central banks have also pivoted toward easing as inflation pressures have subsided worldwide. The US Federal Reserve's rate cut cycle has reduced pressures on emerging market currencies and provided space for domestic rate cuts.
Third, the government's strong fiscal position and reform momentum created a supportive backdrop for monetary easing. With fiscal policy focused on capital expenditure rather than consumption support, monetary accommodation could complement fiscal efforts without generating inflation.
Liquidity Management: Ensuring Transmission
Rate cuts are effective only if they transmit to actual lending rates in the economy. The RBI has undertaken various liquidity operations to ensure smooth transmission.
The Economic Survey 2025-26 notes that RBI has ensured system liquidity remains comfortable. When the banking system has adequate liquidity, banks can lend freely and competition for deposits moderates, enabling them to lower both deposit and lending rates.
Key liquidity operations include:
Open Market Operations (OMOs): RBI purchases government securities from banks, injecting rupee liquidity into the system. This is a permanent injection of liquidity.
Long-Term Repo Operations (LTROs): These provide liquidity for longer periods (one year or more), giving banks certainty about funding availability.
Standing Deposit Facility (SDF) and Marginal Standing Facility (MSF): These provide the floor and ceiling for overnight rates, creating a corridor within which money market rates operate.
The survey notes that the call rate (overnight interbank lending rate) has stayed below the repo rate, indicating abundant liquidity in the system.
Relaxation of Macroprudential Measures
An important aspect mentioned in the Economic Survey 2025-26 is the relaxation of macroprudential measures that had been put in place earlier. These measures, introduced in 2023, included higher risk weights on certain loan categories to slow credit growth and prevent asset bubbles.
The survey states these measures "were relaxed since the underlying conditions had changed." With inflation under control and credit growth at sustainable levels, the need for restrictive prudential measures had diminished. This relaxation supports credit availability, particularly for sectors that had faced higher regulatory capital requirements.
Inflation Targeting: Success Story
India adopted a formal inflation targeting framework in 2016, with CPI inflation targeted at 4 per cent with a tolerance band of +/- 2 per cent. The Economic Survey 2025-26's data showing inflation at 1.7 per cent demonstrates the success of this framework.
Several factors contributed to the sharp fall in inflation. Food prices, particularly vegetables and pulses, declined significantly due to favorable agricultural conditions and proactive supply management by the government. Core inflation (excluding food and fuel) also moderated, indicating broader demand-supply balance in the economy.
The success of inflation targeting has enhanced RBI's credibility. Well-anchored inflation expectations allow the central bank to focus on growth support when price pressures are absent, as in the current situation.
Interest Rate Outlook
Looking ahead, the survey suggests a benign outlook for interest rates. With inflation low and expected to remain subdued, RBI can maintain its accommodative stance. The key variables to watch include:
Food Inflation: Given its weight in CPI and volatility, food prices remain the primary source of inflation uncertainty. Good monsoons and favorable food management can keep this in check.
Oil Prices: India imports over 80 per cent of its crude oil requirement. Any significant spike in global oil prices would complicate inflation management and rate policy.
Exchange Rate: A sharply depreciating rupee imports inflation through higher import prices. RBI must balance rate cuts with currency stability considerations.
Global Rates: If major central banks pause or reverse their easing cycles, emerging markets including India may face pressure to maintain higher rates to prevent capital outflows.
Monetary Policy Transmission: The Ongoing Challenge
A perennial challenge for RBI is ensuring that policy rate changes transmit fully to actual lending rates. The survey notes positive developments on this front, with market interest rates and government bond yields declining.
Several factors affect transmission. External benchmark-linked lending rates (EBLR) ensure automatic transmission for certain loan categories. However, bank funding costs, credit risk assessments, and competitive dynamics also influence the final lending rates offered to borrowers.
Improvements in banking sector health – with lower non-performing assets and stronger capital positions – support better transmission as banks have less need to charge risk premiums to cover expected losses.
Coordination with Fiscal Policy
The Economic Survey 2025-26 implicitly highlights good coordination between monetary and fiscal policy. The government's fiscal consolidation has reduced its borrowing requirement, easing pressure on interest rates. Lower government borrowing leaves more funds available for private sector credit.
The survey notes that markets have rewarded fiscal discipline with lower bond yields, complementing RBI's accommodative policy. This coordination – fiscal consolidation combined with monetary accommodation – represents an effective policy mix for growth with stability.
Monetary Policy Framework: Key Concepts for UPSC
UPSC aspirants should understand the following monetary policy concepts:
Repo Rate: The rate at which RBI lends to banks against government securities. This is the primary policy rate.
Reverse Repo Rate: The rate at which RBI borrows from banks. Now effectively the SDF rate.
CRR and SLR: Cash Reserve Ratio and Statutory Liquidity Ratio determine the portion of deposits banks must hold as reserves.
Monetary Policy Committee (MPC): A six-member committee that decides policy rates. Three members are from RBI (including Governor as Chairman) and three are external members appointed by the government.
Practice MCQs on RBI Monetary Policy - Economic Survey 2025-26
Q1. According to Economic Survey 2025-26, RBI's monetary policy stance in FY26 has been:
(a) Contractionary
(b) Neutral
(c) Accommodative with rate cuts
(d) Unchanged from FY25
Answer: (c) Accommodative with rate cuts
Q2. The inflation target under India's inflation targeting framework is:
(a) 2%
(b) 4%
(c) 6%
(d) 8%
Answer: (b) 4% with tolerance band of +/- 2%
Q3. According to Economic Survey 2025-26, headline CPI inflation during April-December FY26 was:
(a) 1.7%
(b) 3.5%
(c) 4.2%
(d) 5.8%
Answer: (a) 1.7%
Q4. Macroprudential measures mentioned in Economic Survey 2025-26 were introduced to:
(a) Increase tax revenue
(b) Slow credit growth and prevent asset bubbles
(c) Reduce fiscal deficit
(d) Control food prices
Answer: (b) Slow credit growth and prevent asset bubbles
Q5. The Monetary Policy Committee in India consists of:
(a) 3 members
(b) 5 members
(c) 6 members
(d) 9 members
Answer: (c) 6 members (3 from RBI, 3 external)
Conclusion
The RBI's accommodative monetary policy in FY26, as documented in the Economic Survey 2025-26, reflects a favorable inflation environment and supports India's growth objectives. Aggressive rate cuts, liquidity support, and relaxation of restrictive prudential measures have created a conducive financing environment for businesses and consumers. Looking ahead, maintaining this accommodative stance will depend on inflation dynamics, global developments, and the continued success of fiscal consolidation. The effective coordination between monetary and fiscal policy provides a template for supporting growth while preserving macroeconomic stability.