The Reserve Bank of India (RBI) said its rate hiking spree is over for now, never mind continuing inflationary pressure.

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It maintained its forecast of 7% inflation at the end of March next, even as it raised the benchmark repo rate by 25 basis points (bps) to quell rising inflation expectations.

The central bank said it may not need to raise policy rates in the December review as inflation will start trending down from 9% and above now.

It seems more confident of inflation being contained on the back of falling demand.

Aggregate demand, a key demand-side inflation factor, is expected to come off on the back of past policy actions and global economic slowdown affecting investment and private consumption demand.

Investment intentions have fallen sharply in the first quarter of 2011-12 with Rs80,300 crore of projects sanctioned against Rs142,800 crore of projects sanctioned in the first quarter of 2010-11. Private final consumption expenditure growth fell from 9.5% in first quarter 2010-11 to 6.3% in first quarter of 2011-12.

The RBI expects export growth to slow down from 51.8% levels in April-September on the back of slowing global economic growth.

The RBI is not confident of inflation coming off due to uncertainties on the supply side. The central bank has highlighted inflation risks in the form of oil prices, food prices and administered fuel prices including coal. Rising oil prices are an ever present threat to inflation expectations.

The administered prices of fuel in the country lead to non-passthrough of commodity prices to the end user and reflects latent inflation.

Food prices, especially protein-rich-food prices, where there are structural imbalances, will pose problems for inflation down the line.

The markets are already cheering the RBI guidance on policy rates, leading to strong rally in equities.

Bond yields, too, fell by around 6 bps post the policy announcement, while the rupee gained over half a percent against the dollar.

The interest rate swap curve has started flattening with the five over one OIS (overnight index swap) spread flattening by 9 bps to close at a negative 78 bps spread.

In all likelihood, the markets will look to embrace the positive sentiment of the last of the rate hikes, until there is a real threat to inflation that surprises the markets and the RBI.

The RBI, on its part, will hope that its inflation forecasts come out right as it has given a guidance to the market on its expected future course of action. RBI is still not fully confident of its take on inflation as seen from the inflation dynamics presented in the policy, but it does look as if policy rate hikes are on their last legs given the rate hike spree of 175 bps over the last five months.

— Arjun Parthasarathy is the editor of www.investorsareidiots.com, a web site for investors