RBI’s rate and stance decisions are prudent but is it overdoing its liquidity injections?

In one of the shortest monetary policy announcements to date (just 27 minutes), Reserve Bank of India’s (RBI) governor Sanjay Malhotra announced the unanimous decision of its rate-setting Monetary Policy Committee (MPC) to keep the repo rate unchanged and maintain status quo on the stance as well (albeit by a 5:1 majority). For now, the repo rate—at which RBI infuses liquidity into the system—will remain at 5.25%. The stance will also stay neutral.

The decision was not unexpected. Given the impending revision in two key macroeconomic numbers—gross domestic product (GDP) estimates where the base year is to be brought forward to 2022-23 from 2011-12 at present and consumer price inflation, where the base is to be moved forward to 2024 from 2011-12 now—any other decision might have risked rocking the boat.

Central banks are ‘data dependent.’ Decisions on the growth-inflation trade-off depend on underlying macroeconomic fundamentals, for which we in India don’t have the requisite data. For now, that is, given the forthcoming revisions; the new retail inflation number is expected to be announced as early as 12 February and the new GDP series on 28 February.

Clearly, these played on the governor’s mind. He referred to it thrice in the course of the first 10 minutes of his speech. It is also the same reason why the governor gave no guidance about future growth or inflation, saying, “We are deferring the projections for the full year to the April policy as the new GDP series will be released later in the month.”

Faced with black holes on GDP and retail inflation, the MPC opted to hold its horses. Wisely! Almost a year to the day since governor Malhotra, presiding over his maiden monetary policy on 7 February 2025, had cut the repo rate by 25 basis points after a long hiatus under previous governor Shaktikanta Das, the MPC opted to bide its time.

There is nothing to be gained by rushing into pre-emptive action. Remember, RBI has already cut the repo rate by 125 basis points in the preceding 12 months, reduced the cash reserve ratio, or the amount of deposits banks must keep with RBI, by a percentage point and infused a huge amount of liquidity.

According to the Economic Survey, average surplus liquidity in the system was a mind-boggling 117 times that of the previous year. In such a scenario, any further action, whether on the rate or liquidity front, could well prove hasty and possibly misguided.

More so since the economy’s improvement in growth impulses—growth estimates for the first and second quarter of the next fiscal year have been revised upwards marginally—is expected to continue. At the press conference following his announcement, the governor described India’s growth as being in the “same sweet spot as earlier, maybe even better.”

Inflation is also expected to remain well within the target range specified under the Flexible Inflation Targeting Regime. And though there is a slight uptick in inflation estimates for both the first and second quarter of 2026-27, which have been revised upwards to 4% and 4.2%, from the earlier estimates of 3.9% and 4% respectively, the MPC is clearly not losing any sleep over it. As yet.

It’s on the liquidity front that RBI must tread a far more careful line than before. Going ahead, says the policy statement, the central bank “will remain proactive in liquidity management and ensure sufficient liquidity in the banking system to meet the productive requirements of the economy and to facilitate monetary policy transmission.”

What is left unsaid is that, as the government’s debt manager, it will manage liquidity so that the government’s borrowing goes through successfully and at a low cost. Never mind that a sizeable increase (of 16%) in the government’s gross borrowing plan for 2026-27 puts it in a tight spot.

As in the past, it could groom the market, suffusing it with liquidity. The policy statement says RBI “undertook several measures to provide durable liquidity in December and January”; indeed, it did this through most of 2025-26. But there’s another side to that. A sustained shortage of ‘durable liquidity’ is a sign of a deeper malaise. By addressing the symptom (tight liquidity), rather than the cause (slower growth in bank deposits and hence in credit creation), RBI is missing the wood for the trees.

In a telling slip of the tongue at the press conference following the monetary policy announcement, the governor, while elaborating on RBI’s duty to provide liquidity, spoke of providing “ample liquidity,” before quickly correcting himself to say “sufficient” liquidity.

Agreed, central bank liquidity has a key role to play in safeguarding financial stability and dealing with liquidity crises. But the key word here is ‘crises.’ At all other times, the role of the central bank must be confined to bridging temporary mismatches and acting as a lender of last resort. When the central bank acts as the lender of first rather than last resort, as RBI has been doing over the past few months—by rushing to provide liquidity at the slightest hint of tightness, rather than allowing interest rates to rise—we are inviting trouble. The economy could overheat and inflation surge.

The author is a senior journalist and a former central banker.