The RBI monetary policy committee (MPC) is expected to keep the benchmark rate unchanged at 5.25% this week, whilst maintaining the neutral stance as well as economic projections. We anticipate a cautious policy statement, that underscores the need for continued vigilance on the inflation outlook, while placing greater emphasis on core inflation as a more reliable measure of underlying price pressures rather than headline inflation, which has been influenced by both domestic and global supply-side factors. Against this backdrop, the committee is likely to push back against market expectations of a more aggressive tightening path reflected in implied rates. For the path ahead, the markets will be watchful of developments in West Asia and signs of any change in the US Fed’s policy outlook in second half of 2026. These developments will have important implications for the rupee, capital flows, and interest rate differentials. In the near term, the anticipated recovery in portfolio inflows, together with continued inflows via the swap windows, should provide a constructive backdrop for onshore markets.
In its second official update, the RBI announced that a cumulative $40.1bn has been raised under the special swap windows by 31-July, up from $20bn by mid-July. Of this, around 90% i.e. $36bn was under the FCNR (B) deposit scheme (part of which can be attributed to re-booking), with the rest comprising of flows through the external borrowing windows. The total scale of inflows could be closer to our revised estimate of ~$65-70bn, as compliance matters are resolved and greater clarity emerges on tax matters in selected jurisdictions for leveraged-deposits. The impact of these inflows would typically have been evident in both foreign exchange reserves and the currency, neither of which has responded commensurately with the scale of the flows for now. We had discussed the limited salutary impact on the rupee on account for these flows here, with a floor at 95.00 for the USDINR. The scale of incremental increase in foreign currency reserves has also been relatively modest, at around ~$12bn thus far. The apparent disconnect may be explained by settlement and reporting lags, with part of the inflows likely still in transit and yet to be captured in the reserves data, alongside more active RBI intervention which has partly offset the impact. INR liquidity swings are also being influenced by frictional/ seasonal drivers. Banks are, nonetheless, expected to benefit from these flows, with the landed cost of these deposits likely to cheaper than the prevailing cost of domestic deposits. Elsewhere, INR bonds showed only a modest reaction to Bloomberg Index’s move defer the decision on adding India’s debt to its global aggregate bond index. The INR bond yield curve is likely to retain a steepening bias in the near term, as stronger inflows and ample domestic liquidity support demand at the short to belly tenors (aligning also with RBI’s pause on rates), while elevated global yields constrain any meaningful pullback at the long end.
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