RBI Monetary Policy and Growth Outlook 2025

The Reserve Bank of India (RBI) in its October 2025 monetary policy raised the baseline growth forecast from 6.5% to 6.8%. This adjustment was driven by a strong Q1 GDP growth of 7.8%, surpassing earlier estimates by 1.3 percentage points. Despite some global challenges, India’s economy is expected to maintain moderate growth supported by regulatory reforms and improved consumer confidence.

Revised Growth Projections

RBI raised the Q2 growth forecast by 0.2 percentage points but trimmed Q3 and Q4 projections by 0.1 points each. The full-year growth is expected to slow from 7.4% in the first half to 6.3% in the second half. This slowdown is largely due to adverse base effects and external factors such as higher US tariffs. The tariff impact is estimated to reduce GDP growth by 0.3 to 0.4 percentage points.

Risks to Growth

Growth risks extend beyond export impacts to capital flows and investment. Early signs of stress are seen in MSME sectors like textiles, seafood, gems and jewellery, chemicals, and machinery. However, consumer confidence in urban and rural areas has improved. Manufacturing demand has moderated slightly, but capacity utilisation is rising. The services and infrastructure sectors remain optimistic.

Regulatory Reforms and Banking Sector

The policy introduces structural regulatory changes aimed at supporting growth. The adoption of the Expected Credit Loss (ECL) framework aligns Indian banks with international standards like IFRS 9. While this may cause a one-time hit on public sector banks, it is expected to improve long-term asset provisioning. Infrastructure lending is set to grow as risk-weight norms align with external ratings under the Basel framework.

Banking Business Model Shifts

Banks are shifting from corporate fixed investment funding to retail lending amid disintermediation. Lower regulatory burdens may reduce transaction costs and encourage new business models. Revised capital market exposure guidelines could boost mergers and acquisitions and lending against shares, REITs, and InvITs. This may challenge foreign investment banks’ dominance in these areas.

Supervision and Regulatory Challenges

The RBI’s move towards principle-based regulation increases reliance on self-regulatory organisations but raises supervisory risks. There is potential for manipulation of ECL provisions and credit ratings. SEBI may need to tighten credit rating standards as Indian ratings often diverge from global ratings. The RBI has replaced the Large Exposure Framework with macroprudential measures but must remain vigilant against real estate market bubbles.

Capacity Building and Future Preparedness

To manage evolving risks, RBI must enhance its supervisory talent through risk management certifications. Advances in technology, such as machine learning for cash-flow analysis, may soon render current models obsolete. Upgrading skills and tools is essential for effective oversight in a rapidly changing financial environment.

Questions for UPSC:

1. Discuss in the light of recent RBI monetary policy how regulatory reforms can impact economic growth and banking stability in India.
2. Critically examine the role of external factors such as US tariffs and global capital flows on India’s economic growth prospects.
3. Explain the significance of the Expected Credit Loss (ECL) framework and its implications for Indian banks and financial markets.
4. With suitable examples, discuss the challenges and opportunities of principle-based regulation and self-regulatory organisations in the financial sector.

Answer Hints:

1. Discuss in the light of recent RBI monetary policy how regulatory reforms can impact economic growth and banking stability in India.

1. RBI’s adoption of the Expected Credit Loss (ECL) framework aligns banks with IFRS 9, improving asset quality assessment.
2. One-time provisioning hit on public sector banks strengthens long-term financial health and stability.
3. Alignment of infrastructure lending risk-weights with external ratings under Basel norms encourages capital flow to infrastructure.
4. Lower regulatory burdens reduce transaction costs, enabling banks to diversify lending towards retail and capital markets.
5. Structural reforms increase investor confidence and support moderate GDP growth despite external shocks.
6. Potential risks include supervisory challenges in enforcing new frameworks and preventing regulatory arbitrage.

2. Critically examine the role of external factors such as US tariffs and global capital flows on India’s economic growth prospects.

1. US tariffs (assumed at 50%) expected to reduce India’s GDP growth by 0.3-0.4 percentage points.
2. Tariffs impact export-oriented MSME sectors like textiles, seafood, gems, chemicals, causing stress and demand moderation.
3. Global capital flow volatility can affect investment in Indian businesses and infrastructure projects.
4. Adverse base effects and protectionism globally contribute to projected slowdown from 7.4% to 6.3% growth in H2.
5. Improved consumer confidence and service sector outlook partly offset external headwinds.
6. Policy options like fiscal support (ECLGS) exist but encouraging business adaptation is preferred currently.

3. Explain the significance of the Expected Credit Loss (ECL) framework and its implications for Indian banks and financial markets.

1. ECL framework mandates forward-looking provisioning based on PD-LGD-EAD parameters, enhancing risk sensitivity.
2. Brings Indian banks in line with global accounting standards (IFRS 9), improving transparency and comparability.
3. May cause initial capital strain on public sector banks but reduces future standard asset provisioning requirements.
4. Improves credit risk management and helps prevent sudden shocks from non-performing assets.
5. Requires robust data and supervisory oversight to prevent manipulation and ensure accurate provisioning.
6. Supports healthier banking sector, which is critical for sustained economic growth and credit availability.

4. With suitable examples, discuss the challenges and opportunities of principle-based regulation and self-regulatory organisations in the financial sector.

1. Principle-based regulation offers flexibility and innovation, reducing rigid compliance costs for banks and NBFCs.
2. Alignment of risk-weights with actual risk profiles (e.g., infrastructure projects) leads to efficient capital allocation.
3. Greater reliance on Self-Regulatory Organisations (SROs) can improve industry expertise and responsiveness.
4. Challenges include risk of regulatory arbitrage, manipulation (e.g., gaming ECL calculations), and inconsistent enforcement.
5. Requires strong RBI supervision and upgraded supervisory talent to manage risks and maintain stability.
6. Example – Revised capital market exposure guidelines may boost M&A activity but need careful monitoring to avoid systemic risks.