The RBI pulled a rabbit out of the hat on Friday. The central bank’s rate-setting committee reduced the benchmark repo rate by 50 basis points besides cutting the cash reserve ratio by an unexpected 100 bps, making it the sharpest and boldest policy move since the pandemic. Friday’s decision beat both consensus estimates and market expectations. No one imagined Governor Sanjay Malhotra and his team to deploy a double-barrelled gun to stimulate private consumption and investments. As Malhotra noted, the frontloading of monetary easing reflects a clear intent to support growth and, by lowering both the price of money (repo cut) and the quantity of money (CRR cut), the RBI has laid the ground for faster monetary transmission, which is woefully lagging. In short, the move is unabashedly growth-oriented. As a result, India suddenly finds itself in a rare combination of low rates, low income taxes and low food inflation. This should help translate into a high-growth, high-incomes scenario. But will it?
The jumbo rate cuts along with the change in policy stance from accommodative to neutral imply two things—either the rate cut cycle is nearing its end or there will be a long pause before the next reduction. In any case, the market expects paring of another 25-50 bps to take the policy repo rate closer to 5 percent. With a projected inflation of 3.7 percent in 2025-26 (which is also 30 bps below RBI’s target of 4 percent for the first time in four years) and repo rate at 5-5.5 percent, the real policy rate stands comfortably above the central bank’s preferred zone by 100-150 bps. It’s also consistent with India’s investment and credit expansion needs, especially in a disinflationary global environment. Strong foreign exchange reserves, steady capital inflows and healthy external accounts—low current deficit and low short-term debt—should provide a buffer against global turbulence.
This is not a business-as-usual monetary policy and the objective is more than simply delivering a rate cut. For, beneath the veneer of being the world’s fastest growing large economy, the underlying growth dynamics are rather feeble. Corporate capital expenditure has remained muted, largely due to balance-sheet deleveraging, while private consumption is punching below its weight. So amid the global headwinds, lower rates are an attempt to fortify consumption and investments. The real question is whether the monetary stimulus will revive the economy’s animal spirits.