Paring all early losses, benchmark indices Wednesday rebounded after the government said RBI's autonomy was essential but its functioning must be guided by public interest and needs of the economy.
The 30-share Sensex rallied 550.92 points, or 1.63 per cent, to close at 34,442.05, while the broader NSE Nifty surged 188.20 points, or 1.85 per cent, to end above the 10,350 marks at 10,386.60.
"The markets have come through with what would be referred to in technical parlance as a follow-through day, in a classic fashion," said Sunil Sharma, Chief Investment Officer, Sanctum Wealth Management.
"Fundamentally, the market shrugged off worries about tensions between the Reserve Bank of India (RBI) and government that led to a selloff in the morning," he pointed out.
Investor sentiment turned positive after the Finance Ministry issued a statement to dampen concerns over a spat between the government and the central bank.
"The autonomy for the central bank, within the framework of the RBI Act, is an essential and accepted governance requirement. Governments in India have nurtured and respected this," the Finance Ministry said.
Sector-wise, banking, IT, pharma and realty indices drove the market momentum.
Financial sector stocks led the rally, with HDFC adding 162.28 points to the gains on Sensex by surging nearly 6 per cent. IndusInd, Axis Bank, Yes Bank, SBI and ICICI Bank followed suit, gaining up to 4 per cent.
With relief rallies across emerging markets and the US, it appears that the market is making a strong attempt at a trend reversal, market analysts said.
The rupee depreciated further to 73.96, leading to a strong performance by IT and Pharma, they added.
Elsewhere in Asia, Shanghai Composite ended 1.35 per cent higher, while Hang Seng Index rose 1.60 per cent. Japan's Nikkei closed 2.16 per cent up.
In Europe, DAX was up 1.22 per cent and STOXX50E rose 1.40 per cent.
(With inputs from agencies.)