The Reserve Bank of India on Thursday warned of "very limited" space for further easing of monetary policy, striking a hawkish tone a day before it is widely expected to cut interest rates by 25 basis points for the third time this year.
The cautious language in its report on macroeconomic and monetary developments could dent rising market hopes for a dovish stance from RBI Governor Duvvuri Subbarao on Friday and further easing this year.
"In view of macro-financial risks that stay significant, headline inflation remaining above the threshold and consumer price inflation remaining high, the space for action for 2013-14 remains very limited," the RBI said on Thursday.
The RBI is expected to cut the policy repo rate by 25 basis points to 7.25 percent on Friday amid easing headline inflation and an economy growing at its slowest in a decade. However, the outlook for further cuts is tempered by a high current account deficit and still-high inflation.
The RBI's survey of professional forecasters lowered its growth forecast for the fiscal year that started in April to 6 percent from 6.5 percent in its previous survey. Asia's third-largest economy is expected to have grown at about 5 percent in the fiscal year that ended in March.
The survey projects wholesale price index inflation at 6.5 percent during the current fiscal year, lower than the 7 percent forecast in its last survey. The RBI said inflation could ease further in the first half of the fiscal year before rising slightly in the second half.
India's headline inflation in March fell to its lowest in more than three years at 5.96 percent, but the consumer price index remained elevated at 10.39 percent, a key worry for the RBI.
"The significant wedge between wholesale price and consumer price inflation is exacerbating the challenge for monetary management in anchoring inflationary expectations," it said.