Inflation references have morphed from an elephant to a horse which needs to be reined in. Once in control, we expect it to eventually shape into a dove. The change in the policy stance provides a first break in the central bank monetary policy committee’s hawkish armour in the past year-and-a half, with the move being unambiguously positive against the backdrop of a change in the global rate cycle.

While the repo rate was left unchanged on Wednesday, the stance was dialled down to ‘neutral’ from a hawkish ‘withdrawal of accommodation’ earlier. A softening in the MPC’s view on forward-looking inflation and preference to retain flexibility on the path ahead were behind the change in stance, in our view. Policymakers acknowledged ongoing durable disinflation towards the target, but hedged bets by highlighting two-way risks from domestic and global developments to the price outlook.

The voting pattern also provided an early peek into the bias of the new external members, with one dissent vote reflecting the solo dove in the house. Minutes of the October review will be parsed closely to gauge who else will vote in favour of easing to tilt the balance accordingly.

Despite signs of a slowdown in cyclical indicators, the RBI maintained an optimistic view on growth, from stronger rural demand, service sector activity and investments. The FY25 growth forecast was maintained at 7.2 percent year-on-year.

In the October edition of the Monetary Policy Report, the FY26 growth is estimated at a still strong 7.1 percent, firmer than our 6.5-6.7 percent forecast. Concurrently, the FY25 inflation projection was maintained at 4.5 percent, on two-way risks – easing energy prices and a good monsoon capping food prices, whilst Middle Eastern tensions and higher input costs on China-related stimulus/US elections pose upside risks. The report pegs FY26 inflation at 4.1 percent.

This leaves the 12 months ahead inflation projection at an average of 4.1 percent (Q3FY26 4.2 percent and Q4 at 4.1 percent), placing the real rate at ~240bp. Going with the theoretical construct of the preferable 140-190bp spread, there is room for 50-100bp cuts in this cycle.

A change in stance increases flexibility for the path ahead, opening the door for cuts, on the grounds of: a) near-term inflation risks being elevated on food and weather, but underlying inflation risks including core inflation are expected to stay subdued on a forward-looking basis; b) softness in high-frequency indicators might result in a modest downward revision in the growth forecast in December; c) remarks that “the prevailing and expected inflation-growth balance have created congenial conditions for a change in monetary policy stance to neutral” reflect a forward-looking view when the mix is expected to become conducive.

The OIS (Overnight Index Swap) curve is currently pricing in a rate cut in December. We retain our view for rate cuts to start with a 25bp reduction in December 2024, assigning a 70 percent probability, with 100bp cuts over the course of CY2025.

Oil continues to be an important factor in the current geopolitical landscape. As tensions in the oil-rich Middle East evolve, the outlook for crude oil prices remains dynamic. Prices have shown notable resilience, remaining within the relatively stable range of $75-$80 per barrel, which is below the central bank's official projections. It's worth noting that any developments impacting key oil production facilities or shifts in demand—such as potential stimulus measures in China—could influence price movements. Additionally, the narrowing discounts on Russian crude and India's import costs from other traditional suppliers are trends to watch closely.

Our previous analysis has shown every $10/bl increase can potentially widen the current account deficit by 0.35 percent of GDP. On inflation, the direct and indirect impact of every $10 per barrel move in oil prices on headline CPI could be to the tune of 30-40bp gain assuming pass-through, with a bigger impact on tradable-heavy WPI inflation. Retail fuel prices are, however, unlikely to be adjusted in the near term to preserve real purchasing power. Any squeeze higher in oil prices will argue against a dovish tilt in the policy bias.

Radhika Rao is Senior Economist & Executive Director, DBS Bank, Singapore