On Friday, the Reserve Bank of India (RBI) made a pivotal decision by lowering the key repo rate for the first time since May 2020, a moment that comes nearly five years after the last cut. This reduction of 25 basis points brings the key interest rate down to 6.25%. In a livestreamed announcement, RBI Governor Sanjay Malhotra articulated the central bank’s intention to bolster the economy amid a backdrop of cooling inflation rates. This move is significant not only because of its rarity but also due to the broader economic context in which it unfolds.
The RBI’s decision is underscored by a notable decline in inflation rates. Having peaked in October, consumer price inflation fell to 5.22% in December and 5.48% in November, now residing comfortably within the central bank’s tolerance limit of 6%. Such easing of inflationary pressure presents an opportunity for the Monetary Policy Committee (MPC) to act without exacerbating existing economic challenges. In its projections, the RBI anticipates a real GDP growth of 6.7% for the upcoming fiscal year, while adjusting the current year’s forecast down to 6.4%, which reflects a notable contraction compared to previous expectations.
In response to the rate cut announcement, the Indian stock market exhibited a lukewarm reaction, with the benchmark Nifty 50 index experiencing a dip of about 0.5%. Concurrently, the yield on 10-year government bonds rose by over 4 basis points to 6.7%. This contrast underscores the complexity of the market’s response to the RBI’s actions; investors may be cautious, pondering the implications of sustained growth forecasts amid the backdrop of tempered economic expansion.
Moreover, the RBI’s decision to maintain a “neutral” policy stance surprised some analysts who had anticipated a shift toward a more “accommodative” approach. Governor Malhotra acknowledged the economic landscape, noting that while growth is on track to recover from a shallow second-quarter performance, it remains significantly lower than the previous year’s figures. This considered stance indicates a balancing act between supporting growth and managing inflation expectations.
The economic scenario, however, is far from straightforward. The Indian rupee continues to struggle against the U.S. dollar, recently hitting record lows, which raises concerns about potential inflationary pressures that could accompany the repo rate cut. Analysts suggest that further rate reductions could catalyze increased domestic inflation, leading to adverse effects on currency stability and possibly instigating capital outflows.
In its efforts to counteract these challenges, the RBI has implemented significant interventions in the foreign exchange market to mitigate abrupt capital exits and stabilize the rupee. Such measures are critical as India navigates this complex monetary landscape, balancing between growth stimulation and inflation control.
The RBI’s recent rate cut marks a critical juncture in India’s monetary policy, offering a glimmer of hope for stimulating economic growth while carefully managing inflation. As the central bank works to refine its strategies amid fluctuating market conditions, the focus will remain on sustaining momentum in economic recovery without jeopardizing price stability. The coming months will be crucial in determining the success of these policies and their broader implications for India’s economic landscape.