Repo Rate cut by 25 bps

By Tabish Salam

The wise men of the Monetary Policy Committee slashed Repo rate by 0.25% to 6% as expected. The rate cut was supported by the decline in headline inflation, moderation in core inflation, smooth rollout of Goods and Service Tax, and a normal monsoon.

Four out of six members of the Monetary Policy Committee including the RBI Governor, Dr. Urjit Patel, voted for 25bps rate cut while Dr. Ravindra Dholakia voted for 50bps rate cut, and Dr. Michael Patra voted for a pause. 

RBI believes that from here on, retail inflation has only one direction, which is up. Going forward, there would be inflationary pressure from the increase in HRA, upturn in food prices, formalisation effect of GST, increase in rural wages and minimum support price for crops and also farm loan waivers.

The RBI has maintained its GVA forecast at 7.3%. The MPC growth outlook was rather muted and it noted that while the outlook for agriculture appears robust, underlying growth impulses in industry and services are weakening. The RBI noted risks to growth from slowdown in manufacturing activity, leveraged balance sheets of the private sector, regulatory challenges of the real estate sector, and constraints on capital expenditure by states on account of farm loan waivers. For the last one and half years, the central bank has been awfully off the mark as far as inflation is concerned. Is this the likely end of the easing cycle? The only time since 1970 that benchmark interest rates in India have been lower than 6% was between January 2009 and August 2010 following the 2008 global financial crisis. This time around, the global backdrop is far from similar. Interest rates across the developed world are being normalised, and with the US Federal Reserve expected to begin shrinking its balance sheet in the next few months, the room for manoeuvre by the RBI is limited. However, according to a few experts there is a room for the RBI to cut rates by another 0.25%. The onus will now be on banks to reduce the interest rate on outstanding loans, as the RBI noted that while interest rates on fresh loans based on

Marginal Cost of Lending Rate have fallen, the base rate has not declined as much. 

In future further lending rate cut by banks will largely be dependent on their ability to reduce deposit rates as banks remain focused on protecting their margins.