The RBI was right to move. Now the fiscal side must hold

The Reserve Bank of India raised its repo rate by 25 basis points to 5.50% on 7 October. It was the first increase since February 2023, and it came barely ten months after the last cut. Some will call it a reversal. We think it was the right call, made at the right size.

The case for moving now

Inflation has risen every month this year, from 2.74% in January to 4.82% in August. Food inflation is at 5.95%. The RBI found that about 37% of the consumer basket by weight was rising faster than 4%, which suggests the pressure is no longer confined to a few items.

The outlook is worse than the present. The RBI expects inflation to reach 6.0% in October-December, the top of its tolerance band, and to average almost 5.8% over the next three quarters. A deficient monsoon and strong El Niño conditions threaten the rabi crop. Brent crude is still above $100 a barrel, and the rupee is close to 97 to the dollar, which makes every imported barrel dearer.

A central bank that waits for inflation to arrive before acting usually has to act harder later. Moving by 25 basis points now, while growth is strong, is the cheaper option.

The other side’s best argument

There is a serious case against the hike. This is largely a supply shock from oil and the weather, and higher interest rates do not lower the price of crude or make it rain. Core inflation excluding precious metals was only 2.9% in August. Two of the six MPC members, Dr Nagesh Kumar and Prof. Ram Singh, voted for the hike but wanted to keep the stance neutral. Borrowers with repo-linked loans will pay more within a quarter.

These points deserve weight. But the RBI’s mandate is to keep inflation near 4%, and its own projection has it near 6% within months. Supply shocks become a monetary problem when they feed into wages, rents and expectations, and the RBI has flagged elevated inflation expectations. As for growth, the economy expanded 7.8% in April-June and the RBI still projects 7.1% for the year. If there is a time to absorb a small increase, it is now.

Now the fiscal side

Monetary policy cannot do this alone, and the government’s accounts are moving the wrong way. By the end of August, the Centre had used 41.9% of its full-year deficit target, against 38.1% a year earlier. Gross tax revenue grew only 6.5%, well short of the Budget’s 8% assumption, and excise collections fell 23% after the March fuel duty cut. Subsidies are up 24%. ICRA expects the deficit to overshoot the 4.3% target by ₹1.3 to 1.4 lakh crore.

Fiscal slippage during an inflation scare forces the RBI to do more of the work, through higher rates for longer. A larger borrowing programme also leans on the bond market and the rupee at the moment both are under strain.

What the government should do

We recommend three things. First, the Finance Ministry should state publicly, before the RBI’s December meeting, that it will hold the 2026-27 deficit at 4.3% of GDP, or publish a revised number with a clear path back. Second, any extra fuel or fertiliser support should be paid for by cutting or deferring other revenue spending, not by borrowing more or by squeezing capital spending, which fell 30% in August. Third, it should rule out further broad tax cuts on fuel while the RBI projects inflation above 5%, and target relief at the households that need it.

The RBI has done its part. The Centre should do its share.

The reporting behind this view

• 4.82%CPI inflation in August 2026, seventh straight monthly rise
• 6.0%RBI's inflation projection for October-December 2026
• 41.9%share of the 2026-27 deficit target used by August (38.1% a year earlier)