RBI's surprisingly hawkish tone in policy minutes weighs on Indian bonds

Indian government bonds faced significant selling pressure on Thursday following minutes from the Reserve Bank of India's (RBI) latest policy meeting, which suggested the central bank may raise interest rates if inflation risks materialize. The yield on the benchmark 6.94 percent 2036 bond dropped to 6.8382 percent by 10:25 am IST, down from 6.8170 percent the previous day.

The minutes revealed policymakers growing more cautious about inflation, with RBI Governor Sanjay Malhotra noting that while price pressures have not yet intensified across the economy, headline inflation is starting to rise from the unusually low levels observed earlier. STCI Primary Dealer maintained its stance that no rate hikes are expected in the next two policy meetings but acknowledged a higher likelihood of a rate increase in the December meeting.

Retail inflation in July stood at 4.45 percent, still within the RBI's 2 percent-6 percent tolerance range but above its medium-term target of 4 percent. Deputy Governor Poonam Gupta stated there was little room left for further monetary easing, suggesting a rate increase could become a possibility later in the fiscal year. Inflation concerns were heightened by high oil prices, with Brent crude hovering near $92 a barrel due to tensions between the United States and Iran.

This increase in crude prices threatens multiple aspects of India's economy, potentially increasing pressure on the rupee, worsening the inflation outlook, and straining both the current account and government finances. Overnight indexed swap rates surged in early trading, with the one-year rate rising to 5.90 percent and the two-year rate increasing to 6.13 percent. The five-year rate responded more modestly, with a 2 basis point increase to 6.43 percent.