 "RBI cuts repo rate by 25 bps, takes markets by surprise")
The Reserve Bank of India (RBI) lowered its policy repo rate by 25 basis points to 7.5% on Wednesday, its second inter-meeting cut this year on the back of easing inflation and what it said was "weak state" of parts of the economy.
The RBI had lowered interest rates by 25 bps on Jan 15. Both rate cuts this year were outside of the central bank's scheduled policy review meetings.
The cash reserve ratio was kept unchanged at 4%.
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"Given low capacity utilisation and still-weak indicators of production and credit off-take, it is appropriate for the Reserve Bank to be pre-emptive in its policy action to utilise available space for monetary accommodation," RBI Governor Raghuram Rajan said in a statement.
The government welcomed the interest rate cut, with chief economic adviser Arvind Subramanian telling CNBC-TV 18 that both the rate cut and last weekend's annual budget were "consistent with non-inflationary growth".
The cut comes just days after the government and the RBI agreed to formally adopt inflation targeting, though the central bank introduced its own targets a year ago.
"The timing is probably a surprise, but the action is certainly not. The government is expected to spend and push up growth. Inflation is reasonably under control and may not be a concern unless oil prices increase sharply. Hence, a rate cut is on the expected lines," said P Srinivas, MD and CEO of United Bank of India.
The cut comes just days after the government and the RBI agreed to formally adopt inflation targeting, though the central bank introduced its own targets a year ago.
"The timing is probably a surprise, but the action is certainly not. The government is expected to spend and push up growth. Inflation is reasonably under control and may not be a concern unless oil prices increase sharply. Hence, a rate cut is on the expected lines," said P Srinivas, MD and CEO of United Bank of India.
Incidentally, United Bank was the first to cut base rate when RBI last cut its repo rate in January.
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"This time I'll observe other banks' actions before reducing our base rate. It may be difficult for us to reduce rate in March," Srnivas said.
"Our ALCO (asset liability committee) will meet tomorrow to review our rates. A decision (on base rate cut) will be taken by the ALCO after the review. In January, we did not reduce our base rate because our cost of deposits was unchanged. For lending rates to fall, deposit costs need to come down," said Rakesh Sethi, Chairman & MD, Allahabad Bank
Indian companies welcomed the RBI's move to cut interest rates saying it will boost demand for home and auto loans and hence reviving these two key sectors. Indian CEOs expect another 50 basis points to 200 basis points cut by December this year.
"This step by RBI is appropriate at this juncture , since demand push would require more investment and that will put the growth cycle in place which is very much needed in the country today,"said Prabal Banerjee, President of International Finance at Essar group said.
"I expect another at least 50 bps cut in the rest of the year if not more to push the demand cycle in circulation and creating more demand for investment in capacity," he added. "Hopefully by that time, the existing gap between demand and capacity would be filled in by spurt in demand. This will help auto and housing industry, in particular which employs millions of people.Such rate cut could not have been at a better time."
Analysts said the RBI's rate cut appeared to give a seal of approval for the government 2015-16 budget, and its pledge to exercise fiscal responsibility, while taking an additional year to meet a fiscal deficit target of 3% of gross domestic product.
"Softer readings on inflation are expected to come in through the first half of 2015-16 before firming up to below 6% in the second half. The fiscal consolidation programme, while delayed, may compensate in quality, especially if state governments are cooperative," Rajan said.
The statement noted that the rupee's relative strength also added to disinflationary pressures, although Rajan said the RBI does not target exchange rates and does not have a target for currency reserves.
Inflation has moderated sharply as oil prices slumped since last year. In January, consumer prices rose an annual 5.11%, well within the inflation target agreed by the government and RBI.
In a document dated Feb 20 but published on the ministry website on Monday, both sides agreed to set a consumer inflation target of 4%, with a band of plus or minus 2 percentage points, from the financial year ending in March 2017.
The RBI had first lowered interest rates this year on Jan 15, in a similarly unexpected move. Both rate cuts took place outside of the central bank's scheduled policy review meetings.