Though analysts had largely expected rates to stay on hold, especially on the eve of the federal budget announcement, the markets had not ruled out a surprise cut in the repo rate and some had anticipated such a move would at least come by April.
Instead, the Reserve Bank of India's statement warning about inflationary pressures from oil prices, the government's finances and the weaker rupee cast doubts about both the timing and magnitude of future rate actions.
The focus is now expected to shift to the federal budget for the next fiscal year to be unveiled on Friday, which investors will scrutinise for how it will impact specific sectors.
"By keeping rates unchanged, the RBI is signaling that it does not expect inflation and inflationary expectations to reduce in the immediate future," said Kishore Bang, co-founder & director at investment firm Nirmal Bang Group.
The main 30-share BSE index fell 1.4 percent, marking its biggest one-day loss since March 5. The 50-share Nifty index lost 1.5 percent, in its biggest fall since Feb. 27.
Banks were among the leading decliners, with the sector's index falling 2.7 percent.
They had rallied this week after the RBI surprised the markets with a cut in the cash reserve ratio late on Friday, a move that was seen injecting liquidity in a sector facing a cash crunch.
The absence of follow-up RBI action reversed some of those gains, with State Bank of India ending down 2.4 percent after surging 10 percent over the previous four sessions.
The real estate sector , which has been reeling from high interests, also took a hit, with the sub-index ending down 2.9 percent. DLF Ltd, India's largest listed developer, fell 4.9 percent.
Also weighing on the market were railway-related shares, which dropped for a second day as a proposed fare hike for passengers ignited a political crisis, adding to the wariness of investors disappointed over the rail ministry's budget unveiled on Wednesday.
Texmaco Rail and Engineering fell 5.6 percent.
Among other decliners, shares of Anil Dhirubhai Ambani Group (ADAG) companies Reliance Power and Reliance Communications fell over 3 percent each after the National Stock Exchange excluded the two from its benchmark Nifty-50 share index, starting from April 27.