The RBI is scheduled to announce its policy decision at 10 am on Wednesday, with markets divided over whether the central bank will raise the repo rate for the first time in more than three years.
A Reuters poll of 61 economists showed 35 expecting a 25-basis-point rate hike, while 26 forecast no change. Swap markets are pricing in a 25-basis-point increase, while retaining some probability of a larger 50-basis-point hike.
How RBI rate decision could affect rupee
A rate hike can support the rupee by making Indian assets relatively more attractive to investors and potentially improving capital inflows. However, the market reaction will also depend on the size of the hike and the RBI’s guidance.
A private-sector bank currency trader said a no-change decision could put immediate pressure on the rupee, while a 50-basis-point hike could provide a stronger boost, although the impact may be short-lived. A 25-basis-point hike is expected to produce a more muted reaction.
Liquidity management in focus
Apart from the repo rate, investors will closely track how the RBI plans to absorb excess liquidity from the banking system.
The central bank has been using measures including variable-rate reverse repo auctions, sell-buy foreign exchange swaps and open-market bond sales to drain surplus funds.
The key question for markets is whether the RBI will continue relying on temporary liquidity-management tools or take more durable measures to absorb excess liquidity.Analysts at IDFC First Bank said that while the RBI has withdrawn durable liquidity through open-market bond sales and foreign exchange operations, core liquidity surplus remains high.
The immediate challenge for the central bank, they said, is to keep the weighted average call rate aligned with the repo rate while surplus liquidity remains elevated.
The rupee’s opening level on Wednesday comes against a backdrop of heightened focus on both the RBI’s interest-rate stance and its liquidity-management strategy.
-With Reuters inputs
