The Reserve Bank of India hiked its key lending rate by 50 basis points to 5.90 per cent, a three-year high driven by elevated inflation, aggressive global central bank policies, and turmoil in financial markets.
The key lending rate, or repo rate, was increased by 0.5 per cent to 5.90 per cent by the monetary policy committee (MPC), which consists of three members from the RBI and three outside members, with a five out of six majority.
This is the fourth consecutive rate hike after a 40 basis points increase in May, and 50 basis points hike each in June and August. In all, RBI has raised the benchmark rate by 1.90 per cent since May to cool off domestic retail inflation that has stayed above the central bank's upper tolerance limit of 6 per cent each month.
"Repo policy rate hike of 50 bps is in line with our expectations. Given the global adverse conditions, we remain wary on the pressure on (the) INR and hence the need for continued rate hikes," Upasna Bhardwaj, Chief Economist at Kotak Mahindra Bank, told Reuters.
"We expect the MPC to hike 35 bps in the December policy. However, with inflation expected to fall within the 6 per cent threshold in 4QFY23, we expect the MPC to probably pause and assess the lagged impact of monetary tightening," she added.
The rates for the standing deposit facility and the marginal standing facility were also raised by 50 basis points to 5.65 per cent and 6.15 per cent, respectively.
"The hikes have been necessitated by factors such as inflationary pressures, the Ukraine conflict, and microeconomic uncertainties in large economies," said Adhil Shetty, CEO at Bankbazaar.com.
"The latest hike in repo rates will make funding costlier for existing and new borrowers. For existing borrowers, all home, car, personal, and education loans on floating rates will become more expensive," he added.
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Friday's interest rate hike will weigh heavily further on the already stretched monthly household budgets dealing with higher rates and a rise in the price of almost everything.
Due to a spike in food costs, the annual retail inflation rate, based on the consumer price index, increased to 7 per cent last month and has since been above the RBI's statutory 2-6 per cent target level for eight straight months.
RBI Governor Shaktikanta Das said inflation was expected to remain elevated at around 6 per cent in the second half of this fiscal year, suggesting price pressures would remain higher for a longer period than previously expected.
"If high inflation is allowed to linger, it invariably triggers second-order effects and unsettled expectations. The RBI to remain focused on the withdrawal of the accommodative monetary policy," said Mr Das.
Even as the RBI retained its inflation projection at 6.7 per cent for this fiscal year, the central bank cut its economic growth projection to 7 per cent for the 2022-23 fiscal year from an earlier estimate of 7.2 per cent.
But the Governor said, "economic activity in India remains stable as high-frequency data for the September quarter indicates economic activities remain resilient, private consumption was picking up."
"Monetary policy must remain alert and nimble," he said.
Mr Das said the world is amid a third major shock from aggressive monetary tightening by central banks, referring to the pandemic and the Ukraine crisis as the other two storms. "There is nervousness in the financial market, the global economy eye of a new storm," he added, citing the recent tightening by major central banks globally and their aggressive policy positioning.
The latest RBI action follows the US Federal Reserve affecting the third consecutive 0.75 percentage point rate increase, taking its benchmark rate to a range of 3-3.25 per cent earlier this month.
Referring to the rupee's depreciation this year to a record low, close to 82 per dollar, the RBI Governor said the domestic currency's movement was orderly against a rampant US dollar, depreciating only by 7.4 per cent this year until September 28.
"Nervous investor sentiment has triggered flight-to-safety, and several emerging economy currencies face sharp depreciation, said the Governor.
On the RBI's massive spend from the country's forex reserves to arrest the currency's fall against the surging US dollar, Mr Das said, "there is 67 pc decline in forex reserve this year due to change in valuation of the foreign exchange rate."
The country's import cover has declined sharply by over $100 billion from its peak late last year, but the tone of the RBI suggests they were not worried.