In order to stimulate economic growth, the Reserve Bank of India(RBI) has reduced the repo rate by 25 basis points to 6.25%, the first reduction in nearly five years.
This decision, led by Governor Sanjay Malhotra, aims to make borrowing more affordable for individuals and businesses, encouraging spending and investments.
With potential effects spanning reduced loan EMIs to changes in market dynamics, grasping the significance of this rate cut is essential for navigating India's shifting financial environment.
Source - Paytm
What is Repo Rate?
For those of you who have heard this term for the first time or don’t know what it means, the repo rate is the interest rate at which the country’s central bank will lend money to commercial banks when there is a shortfall of funds. It plays a big role in shaping credit availability along with positively influencing market dynamics, inflation and consumer behaviour.
Whenever the repo rate is increased, it can lead to higher interest rates for loans and reduced spending money in the economy as borrowing can be more expensive for the banks. Contrary to this, a decrease in the repo rate will not only make borrowing cheaper but can also encourage lending and investment, thereby stimulating economic growth.
From Inflation to Interest - What Led to the Rate Cut?
India’s economic growth has always come across hurdles along the way in the form of rising unemployment, balancing inflation with potential rate cuts, weakening manufacturing and slower corporate interests. However, the World Bank and IMF have forecasted that the growth of the economy will remain robust around 6.5% to 6.7% for 2025 and 2026.
The government has projected an annual growth rate of 6.4% for the fiscal year which is ending in March, with expectations of 6.3-6.8% for the subsequent year. In order to counter this slowdown, recent fiscal policies have included tax cuts aimed at boosting growth while maintaining fiscal discipline.
Rising Prices & Policy Shifts - The Inflation Story
When it comes to shaping RBI’s monetary adjustments, inflation trends often act as a key factor. As of February 7 2025, inflation has eased to a four-month low, with expectations of continued decline unless disrupted by unforeseen supply issues. This downward trend in inflation provided the RBI the required flexibility and ability to adopt a more accommodative monetary policy stance.
The RBI has forecasted inflation at 4.8% for FY25 and 4.2% for FY26, influenced by factors like food prices, extreme weather events and currency depreciation. In order to deliver a suitable response to these dynamics, the MPC decided to reduce the policy repo rate by 25 basis points to 6.25%, while at the same time maintaining a neutral stance focusing on aligning inflation with the target and supporting growth.
Market Reactions to the RBI's Decision
Following the rate cut, a positive reaction was received from the Indian financial markets. Despite market volatility, the Sensex ranged between 77,730 and 78,357, while the Nifty moved between 23,439.60 and 23,694.50. Non-Banking Financial Companies (NBFCs) on the other hand are well-positioned to benefit from the rate cuts as credit growth improves, followed by banks.
The initial reaction in the market for the rate cut however was that of disappointment. The market expected a softer stance or more liquidity support, but the RBI’s cautious approach caused a slight rise in yields. The central bank's acknowledgment of risks like volatile crude oil prices, global financial uncertainty, and fiscal measures introduced in the Union Budget contributes to this cautious stance.
Future Outlook and Policy Directions
As of now, the RBI’s monetary policy is expected to balance supporting economic growth with managing inflation and addressing global uncertainties. By projecting real GDP growth of 6.7% for FY2026, this will aid in improving conditions of employment and provide a stable agricultural output.
Analysts anticipate headline inflation around 4.5% in the first half of FY25, which may allow the RBI to consider further policy adjustments. The central bank remains vigilant and is ready to employ all tools at its disposal to navigate the evolving economic landscape. The next MPC meeting is scheduled for April 3-5, 2025, where further assessments will be made based on prevailing economic conditions.
Written by - Shashank S
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