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RBI Cuts Key Rates by 50 BPS
Sep 30, 2015

The Reserve Bank of India (RBI) on 29 September lowered its benchmark interest rate by a higher-than-expected 50 basis points to a four-year low, seeking to ease borrowing costs and stimulate economic growth by taking advantage of record-low consumer price inflation.

  • The RBI lowered the benchmark repo rate by 50 basis points to 6.75 percent, while keeping CRR and SLR unchanged at 4 percent and 21.5 percent, respectively.

  • This marks the fourth repo rate cut by the RBI since January 2015.

  • The RBI has lowered its FY16 GDP growth target to 7.4 percent from 7.6 percent.

  • RBI’s focus should now shift to bringing inflation down to 5 percent by FY17-end.

  • The Repo rate was last at 6.75 percent in March 2011. 

  • The RBI expects CPI inflation to average around 5.5 percent in October-December and 5.8 percent in January-March 2016 and finally moderate to 4.8 percent in January-March 2017.

Main Implications of Rate Cut

 Economy: In the recent interaction between the government and corporate India it was pointed out that there are two main reasons why corporate India is not investing in the economy. First was the ease of doing business and second were high interest rates. Setting up capacity during a high interest era impacts the cost of the project and viability of the project. Now with lower interest rates the ball is in the government’s court to announce policy changes in order to prompt corporates to invest.
 Savings: One of the first rates that banks generally cut when the central bank announces a rate cut is in deposit rates. Banks do not want to take the risk of raising high-cost funds at a time when the borrowing rates are falling. Saving rates, be it a savings bank account or fixed deposit will go down from investors. Money markets which are the first to react will see their interest rates fall.
 Currency: Interest rate parity is the reason behind balancing of currency rates. Lower interest rates will not attract capital which is looking for higher yields, which would mean that the currency would weaken. If the Federal Reserve opts to increase interest rate the differential between India and the US will reduce further, resulting in further flight of capital.
 Equity Markets: Equity markets are expected to gain on multiple reasons. First the positive impact on consumption on account of lower interest rates would mean better topline growth. Lower interest outgo would also mean high profit and thus better valuations. Further, lower interest rates means that money will move from lower yielding debt instruments to the equity market.
 Mortgage: Lower interest rates would directly impact all type of mortgages like housing loan, car loan, and personal loans, among others. Lower interest rate is expected to push demand in these segments, which will have a cascading impact on the entire economy. Here the assumption is that the mortgage  has been taken on a floating rate basis. For fixed interest rate mortgages there is unlikely to be any change.

Government welcomes the Reserve Bank of India (RBI)’s decision to reduce the repo rate to 6.75 percent from 7.25 percent. Finance Minister Arun Jaitley said that this action also signals that the RBI is able to provide policy support to the real economy and help its recovery. The Government looks forward to the transmission of these cuts to the rest of the economy and will work to facilitate this transmission, including by reviewing the framework of small savings. The rate cut, combined with actions taken and planned by the Government, will help boost confidence and investment, and help realize the economy’s medium-term potential growth rate.


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