The US Federal Reserve's return to a rate-hike cycle has shifted the focus to the Reserve Bank of India (RBI), with economists increasingly expecting a change in India's monetary policy stance as the central bank weighs rising inflation, a weaker rupee, elevated crude oil prices and higher global bond yields.
The US Fed raised interest rates by 25 basis points (bps) to 3.75%-4% on September 17, its first hike since 2023, and signalled the possibility of another increase this year. For India, the transmission is already visible. The rupee is hovering around the 96-per-dollar mark, US 10-year Treasury yields have crossed 5%, and Brent crude remains above $100 a barrel.
That combination creates a difficult trade-off for the RBI. A weaker rupee makes imported commodities more expensive, while higher crude adds another layer of inflationary pressure. At the same time, higher US Treasury yields reduce the relative attractiveness of Indian bonds and can encourage foreign capital to move towards US Treasuries.
This is why the October 5-7 RBI policy meeting has become significantly more consequential.
RBI faces a different problem than in 2025
The RBI had cut the repo rate by 125 basis points during 2025, taking it to 5.25%. But the environment that allowed those cuts has changed. Retail inflation has risen to 4.82% in August, while core inflation has also started gaining momentum. Wholesale inflation has risen sharply on the back of higher fuel and power prices.
This leaves policymakers with less justification for another rate cut and a stronger reason to keep the option of tightening open.
Madhavi Arora, Lead Economist at Emkay Global Financial Services sees a 25-bps October hike becoming more likely and expects any subsequent tightening cycle to remain relatively shallow at 50-75 bps.
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Axis Capital's Chief Economist Prateek Ancha is more aggressive, seeing the Fed's move supporting around 50 bps of RBI tightening in CY26, potentially split between October and December.
But the counterargument is equally important: raising rates to defend the rupee may not necessarily solve the underlying problem. Apoorva Javadekar, Chief Economist, Shriram Group and CEO, Shriram Research argues that RBI hikes could hurt domestic growth, potentially weakening the currency over the medium term.
Ventura's Head of Research, Vinit Bolinjkar, therefore expects an October hold, albeit accompanied by a more hawkish communication.
Purvi Mundhra, Lead Economist at Choice Institutional Equities takes the debate beyond the immediate October decision. Her argument is that the RBI should consider the real policy rate and the cost of waiting, rather than responding only to near-term currency and liquidity movements.
If emerging markets require a real rate of around 1% to maintain price stability and financial discipline, Mundhra's framework points towards a nominal repo rate of around 6.5%. The argument is that prolonged near-zero or negative real rates can encourage leverage and reduce savings, while leaving the central bank with less policy ammunition if inflation broadens.
That does not necessarily mean the RBI will move to 6.5%. Rather, it highlights the potential distance between the current 5.25% repo rate and the level some economists believe may eventually be required if inflation remains persistent.
Bond yields may adjust before RBI does
The bond market could therefore be the first place where this policy shift becomes visible.
The 10-year government bond yield is around 7.05%, close to a four-month high. Bank of Baroda economist Dipanwita Mazumdar expects further upside pressure, particularly if the US 10-year yield remains elevated. Rising core inflation and FPI debt outflows add to that risk.
“We believe for India, the yield gap with the US is likely to show some correction. There might be some downside pressure on FPI debt on account of the same as flows might be tilted towards safe-haven US treasury security in the rising interest rate cycle,” said Mazumdar.
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Other key upside risks to domestic yield emerge from the trajectory of inflation, as core inflation is also gaining momentum.
She expects RBI to be mindful of the same in the upcoming policy but believes December 2026 will be the opportune time for any rate action as RBI's inflation forecast peaks during that quarter.
“Any unanticipated rate action might push domestic yield higher,” the economist added.
Weighing all the factors, she expects India's 10 year yield to trade in the range of 6.95% - 7.12% in the remaining part of September 2026, with risks tilted to the upside.
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