India's central bank on Tuesday raised key interest rates by 25 basis points, as expected, tightening policy for the second month in a row as it battles inflation near double digits.

The Reserve Bank of India also raised its cash reserve ratio (CRR) requirement for banks by 25 basis points, as expected, in a move to drain further liquidity from the financial system.

India last month became the second Group of 20 economy after Australia to lift policy interest rates as it recovers from the global downturn, when it surprised markets with a 25 basis point increase in key rates.

Asia's third-largest economy is set to grow at 8.5 per cent in the current financial year and 9 per cent the following year, and inflation is spreading beyond food to fuel and manufactured goods such as cars. March inflation reached 9.9 per cent year-on-year, its fastest pace in 17 months.

The RBI said its baseline scenario for economic growth in the current year is 8 per cent, with an upside bias.

Only China is growing faster among major economies, and analysts expect the central bank to continue increasing interest rates throughout the year to bring them back towards pre-crisis levels.

'With the recovery now firmly in place, we need to move in a calibrated manner in the direction of normalising our policy instruments,' RBI Governor Duvvuri Subbarao said in the policy statement.

Indian bond markets had priced in a 25 basis point rise in key rates, while some investors and analysts had expected the central bank to take bolder action to tame inflation.

The central bank lifted the reverse repo rate, at which it absorbs excess cash from the banking system, by 25 basis points to 3.75 per cent. It increased the repo rate, at which it lends to banks, by 25 basis points to 5.25 per cent.

It raised the CRR requirement for banks by 25 basis points to 6.00 per cent, which will drain 125 billion rupees ($2.8 billion) from the system.

Bond yields shot higher this month on worries over inflation and government borrowing, with the yield on the 10-year benchmark bond rising to an 18-½ month high of 8.13 per cent last Thursday.-Reuters