RBI Could Reduce Rates By 125 Bps In FY26, Says SBI Research

The Reserve Bank of India (RBI) is likely to lower interest rates up to 125 basis points (bps) during the financial year 2025-26, says a report by SBI Research. It's based on the recent downward movement in inflation and the fact that it is likely to remain low in the coming months. Borrowing could get cheaper in such a case, but saving may witness a drop in deposit rates.

Last month, India's consumer price index (CPI) inflation fell to a three-year low of 3.34 per cent. This has further hardened the hope that the inflation rate would continue to be in check through the remainder of the year. When inflation is low and stable, central banks such as the RBI typically reduce interest rates to aid economic growth.

SBI Forecasts Sizable Rate Cuts Ahead

SBI Research thinks that the RBI can opt for big cuts instead of gradual and low ones. The report indicates that the RBI can cut the policy rate by 75 basis points between the June and August monetary policy reviews. A further 50 basis point cut can come in the latter part of the year. In that case, the cumulative ratereduction in FY26 can be 125 basis points.

As per the report, such "jumbo" reductions—i.e., bigger reductions such as 50 basis points in one go—could prove more effective in providing a big push to the economy than smaller reductions of 25 basis points stretched over a few months.

If inflation continues to stay near the RBI's target of 4 percent, and global conditions remain stable, SBI says the RBI could even cut rates by up to 150 basis points before the end of March 2026. This could take the repo rate—the rate at which RBI lends money to commercial banks—below what is considered the "neutral rate." The neutral rate is a level that supports economic growth without causing inflation.

To date, the RBI has already reduced policy rates by 50 basis points in FY26 — 25 bps each in February and April.

Liquidity Boost Through OMOs

In addition to reducing rates, the RBI is also moving in a direction that provides liquidity to the system so that there is ample money available. One of its primary instruments in this regard is Open Market Operations (OMOs), whereby it purchases government paper in order to pump liquidity into the banking sector.

In its latest monetary policy meeting, the RBI stated that it wishes to maintain excess liquidity in the system to the extent of Rs 2 lakh crore. For this purpose, the central bank has decided to conduct a further round of OMOs for Rs 1.25 lakh crore in May 2025. These will be conducted in four tranches.

Until the end of March 2025, the system was short of liquidity. In order to correct this, the RBI pumped in almost Rs 8 lakh crore into the system. This consisted of variable rate repos (VRRs) worth Rs 1.83 lakh crore with maturity date more than 14 days, which have since lapsed.

The SBI report states these measures of liquidity are not only taken to promote growth but also to deal with risks emerging outside India. A case in point is the volatility of the Indian rupee relative to the US dollar.

Keeping the Rupee and Foreign Investor Movements in Check

RBI has also been busy in stabilising the rupee. At the beginning of 2025, the rupee had weakened because of a higher dollar and a foreign institutional investor (FII) sell-off. To manage this, RBI has taken a number of measures, such as short forward positions in the currency market. Now that some of these contracts are expiring, SBI states the central bank might have to take new measures to prevent volatility in the foreign exchange market.

Interestingly, the report notes that while RBI keeps buying foreign exchange to stabilise the rupee, it can also increase the liquidity in the market. This will also make RBI financially stronger, and hence, may be able to pay a bigger dividend to the government in FY25.

What It Means for Banks, Borrowers and Savers

Whenever RBI cuts policy rates, banks are expected to pass on the benefit to borrowers by reducing lending rates. However, the transmission is often uneven. According to the SBI report, after RBI's 50 basis point rate cut earlier in the year, the average term deposit rate on new deposits has only come down by eight basis points. On the other hand, the rate on existing deposits has gone up slightly by two basis points.

For borrowers, there has been some relief. The median average lending rate on new loans has fallen by 5 basis points, and by 10 basis points on outstanding loans. However, median one-year marginal cost of funds-based lending rate (MCLR), which is applied to price many loans, has not changed.

SBI observes that if RBI keeps reducing the rates at a fast pace, the rates on deposits will come under increased pressure. This implies that savers might receive lower interest on their fixed deposits. While this is happening, banks will struggle to get new deposits, particularly when other investment avenues are generating better returns.

This will put banks in a tough spot. While on the one side, credit growth is likely to decelerate to 11 to 12 per cent in FY26. On the other side, deposit growth could even fall short of 10 per cent. This lending-deposit mismatch can narrow banks' net interest margins (NIMs), which is the spread between what they collect from loans and pay on deposits.

The SBI Research report provides a scenario of an evolving economic climate in FY26. With inflation declining, there is a good case for the RBI to cut rates sharply to spur growth. These actions, though, have their own set of problems for banks, particularly in terms of mobilisation of deposits and profitability.

If the RBI continues with the rate reduction and liquidity injections, the borrowers might get reduced loan interest rates. But for the depositors, it might become even more crucial to check out the interest rates between banks and check out where they can find better deals to earn decent returns from their funds. Again, as always, the ultimate call will be based on how inflation, currency markets, and international conditions develop in the next few months.