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RBI Policy: Rates kept unchanged; tone far more dovish vs expectation

ICICIdirect Research 05 Jun 2026 DISCLAIMER

RBI maintained status quo on benchmark Repo rate as was widely expected. At the margin there was some apprehension that RBI may adopt a hawkish tone to support currency depreciation. RBI has put to rest such concerns and adopted a wait and watch approach.
GDP downgraded for FY27 to 6.6% from earlier 6.9% and stated that supply shock may weigh on growth going forward. This growth slowdown concern will prevent RBI taking any hawkish or rate hike decision.
Inflation projection for FY27 have been hiked to 5.1% (market expectation was around 5%) from earlier projection of 4.6%. Core inflation is projected at 4.7% (market exptaction was around 4.5%) for 2026-27. The 5.1% inflation projection is at the upper band and it may only go down particulary if crude oil prices fall.
The tone of the policy was far more dovish than market expectation as the Governor did not hint at any rate hike in the near future highlighting a wait and watch approach.  
Benchmark 10-year G-Sec yield decline by 4-5 bps post the policy announcement. However, this decline may also be attributed to FPI G-Sec tax exemption announcement.

RBI has undertaken several measures to attract foreign capital –

  • Concessional forex swap facility for 3–5 year ECBs raised by CPSEs – This is aimed at reducing overseas borrowing costs and attracting dollar inflows with direct beneficiaries being CPSEs including PFC, REC and IREDA.
  • RBI’s to bear full hedging cost on fresh 3–5 year FCNR(B) deposits till September 2026 – This could increase liquidity in the system and enable liabilities accretion as it encourages banks to raise overseas deposits at attractive economics without incurring swap cost. While all banks will remain beneficiaries, lenders with strong NRI franchises are likely to remain preferred beneficiaries.

Our View - Tax exemption expected to aid currency flows and aid revival in FPI participation in Indian bond markets

  • FPI are now exempt from tax on any interest and capital gains on investment in Indian Government Securities. The withholding tax of earlier 20% is also removed and moved to 0%.
  • FPIs earlier had to pay 12.5% long-term capital gains tax on government bonds that were held for more than 12 months. The short-term capital gains tax rate was 20%, if the bond is held for less than 12 months. Both these taxes have been scrapped.
  • Earlier till few years back, FPI used to subscribe 30-35% of the yearly Government borrowing. But since last 2-3 years, FPI were absent and RBI had to subscribe and support Government borrowing through OMOs.
  • This taxation trigger along with high absolute levels of yield (10-year at 7%) and anticipating inclusion in Bloomberg index review in the month of July 2026 could reverse the yield rising trend and also overall current account deficit or depreciating currency trend.
  • Reversal in g-sec yield trend, amid measures undertaken to ease current uncertainties, is seen to seen to aid treasury performance of banks, especially PSU banks.
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