If these are the three challenges, there are also three key developments that everyone will watch out for
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Ask your friends how 2025 has been, and the answers could vary vastly, depending on the perch or prism one views the year from.
For many, for instance, it was a golden year; for others, it was one of silver linings – reliant on the precious metal one added to the locker. Gold ended the year with annual gains of 64 per cent, the largest since 1979, but silver outpaced gold, with a rally of over 150 per cent.
Reserve Bank of India (RBI) Governor Sanjay Malhotra finds the Indian economy in a rare “goldilocks period” – an ideal state of moderate, sustainable growth with low inflation. It’s just right – not overheating (causing high inflation), and not too cold (risking recession). This balance supports strong employment, stable asset prices, and supportive monetary conditions, creating a steady environment for investment and consumer confidence.
This is much like Goldilocks finding the porridge in Baby Bear’s bowl at the “just right” temperature, as opposed to “too hot” in Papa Bear’s and “too cold” in Mamma Bear’s, in the fairy tale, Goldilocks and the Three Bears.
Beyond high growth and low inflation, there are many other record-breaking data points in the year gone by.
For instance, 103 initial public offers raised Rs 1.76 trillion in 2025. We had seen more IPOs in 2000 – the year of the “dot com boom”, but the money raised that year was a meagre Rs 2,953 crore. Also, in 11 months, till November, the systematic investment plan, or SIP, inflows into the mutual fund industry were upwards of Rs 3 trillion – the highest to date.
Not all markets-related numbers are, however, positive. For example, foreign institutional and portfolio investors booked net outflows of Rs 1.6 trillion during the year, the highest annual outflow on record, on stretched valuations, modest earnings, geopolitical worries and, of course, concerns over high US tariffs on Indian exports.
Let us now turn our attention to some of the challenges facing India’s financial system in 2026.
Despite a 1.25 percentage point cut in the RBI policy rate in the past year (from 6.5 per cent to 5.25 per cent), the 10-year government bond yield just dropped 15 basis points during the year – from 6.76 per cent to 6.61 per cent. One basis point is a hundredth of a percentage point. This is in a year when the RBI bought bonds worth at least Rs 7 trillion through open market operations (OMOs).
Between January and March of 2025, the Indian central bank had bought Rs 2.83 trillion worth of bonds, before the financial year 2025-26 (FY26) kicked off. Still pending is Rs 1.5 trillion worth of bond buying, which will happen between January 5 and 22.
The gross borrowing programme of the current financial year is Rs 14.72 trillion and, after adjusting for redemptions, net borrowings stand around Rs 11.5 trillion. But for the RBI’s heavy lifting, the bond yield wouldn’t have dropped even 15 basis points.
The RBI could buy so much since it hadn’t been active in OMOs in the past few years. Will it be able to continue this in 2026? With a record Rs 5.47 trillion worth of redemptions, the central government’s gross borrowings programme in FY27 could be far more than the current financial year. Add to that the state governments’ borrowing from the market. The quantum of state development loan (SDL) to be raised in the January-March quarter is higher than what the market was expecting. Both the SDL’s volume of supply and maturity profile have an impact on yield.
There are other factors, too. The change in the classification norms – banks are no longer allowed to shift bond investments from the held-to-maturity bucket to any other bucket once a year – and the currency’s movement are other factors that diminish the risk appetite of bond buyers.
The 10-year bond yield dropped to 6.24 per cent in the last week of May, ahead of the June policy when the RBI cut the repo rate by half a percentage point. Typically, yield drops in anticipation of a rate cut and, once it is done, the market follows the demand-supply dynamics. We are probably at the end of the rate-cutting cycle. The success of the government borrowing programme and the movement of 10-year bond yield will remain a challenge in the new year.
On the positive side, there is an event the market is watching keenly: The likely inclusion of Indian government bonds in the Bloomberg Global Bond Index. The allocation for Indian bonds in the index, if it happens, is likely to be similar to that in the JPMorgan Emerging Markets Bond Index. The money may not flow in before the third quarter of FY27, but it could be a sentiment booster.
A related issue is the movement of the currency. At the start of 2025, the rupee was trading at 85.61 a dollar; by the end of it, it dropped to 89.88 – making it the worst currency in Asia. It even crossed the 91 level in mid-December. This is when the Dollar Index dropped from 108.49 to 98.33. The Dollar Index measures the US dollar’s strength against a basket of six major foreign currencies (Euro, Japanese Yen, British Pound, Canadian Dollar, Swedish Krona, Swiss Franc), and is a key indicator of the dollar’s global value. It rises when the dollar strengthens and falls when it weakens, with weights based on trade volume.
A settlement on the US tariff is not in sight yet. The trade deficit and foreign money outflow, among other things, tell us that the currency will continue to be a challenge.
The third challenge staring at the banks is the mobilisation of deposits. Like the other two, this, too, isn’t new — a spillover from 2025.
Till December 15, year-on-year credit growth for the industry was close to 12 per cent, while deposits grew just 9.4 per cent. Yes, the deposit base is higher but for every Rs 100 worth of deposits mobilised, banks need to invest at least Rs 18 in government bonds and keep Rs 3 with the RBI as cash reserve ratio.
Overall, bank credit till mid-December was Rs 196.95 trillion, up from Rs 175.86 trillion in December 2024. The deposit portfolio of the banking system, meanwhile, grew from Rs 220.06 trillion to Rs 241.32 trillion, during this period.
Indian bankers are in a catch-22 situation. One way to attract deposits is by raising interest rates, but can they do so when the policy rate is falling? And, of course, a rise in deposit rate will hurt the net interest margin, or NIM – loosely the difference between what a bank earns on loans and pays for deposits – and their profitability. Most banks have been seeing their NIM as well as the low-cost current and savings accounts, or Casa, portfolio going down.
If these are the three challenges, there are also three key developments that everyone will watch out for.
The new inflation and gross domestic product (GDP) series are expected before the end of the current financial year — metrics that will have an impact on both inflation and GDP, and, hence, on the RBI’s approach to the monetary policy.
The government, it seems, is planning to allow foreign investors to have a higher stake in public sector banks – raising the limit from 20 per cent to 49 per cent even as the floor for the government’s stake in such banks remains at 51 per cent. The Parliament recently passed the Sabka Bima Sabki Raksha (Amendment of Insurance Laws) Bill, 2025, raising the foreign direct investment limit in the insurance sector from 74 per cent to 100 per cent to attract more capital and technology, and broaden insurance coverage. Let’s see what happens on the banking turf.
Finally, there’s the privatisation of IDBI Bank Ltd. The Cabinet Committee on Economic Affairs had granted in-principle approval for the strategic disinvestment of IDBI Bank in May 2021. If it’s a five-year plan, we may see the closure this year.
The writer, a Consulting Editor of Business Standard, is an author and senior advisor to Jana Small Finance Bank Ltd. His latest book: Roller Coaster: An Affair with Banking. To read his previous columns, log on to http://www.bankerstrust.in X: @TamalBandyo
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