On February 7, 2025, the Reserve Bank of India (RBI) reduced its key repo rate by 25 basis points to 6.25%, marking the first rate cut in nearly five years.
Reasons for the Repo Rate Cut:
Slowing Economic Growth: India's GDP growth decelerated to 5.4% in the quarter ending September 2024, the lowest in two years. The government has revised its annual growth forecast down to 6.4% for the current fiscal year, citing a weakened manufacturing sector and subdued corporate investments.
Easing Inflationary Pressures: Consumer price inflation decreased to a four-month low of 5.22% in December 2024, down from 5.48% in November. This decline is attributed to moderating food prices, which constitute nearly half of India's Consumer Price Index (CPI) basket.
Supportive Fiscal Measures: The Union Budget for 2025-26 introduced tax cuts aimed at stimulating consumption and economic growth, while maintaining fiscal discipline. These measures complement the RBI's monetary policy actions.
Implications of the Rate Cut:
Stimulating Economic Activity: Lower interest rates are expected to reduce borrowing costs, encouraging investment and consumption, thereby supporting economic growth.
Impact on Financial Markets: The rate cut led to a rise in sectors sensitive to interest rates, such as financials, automobiles, and real estate. The Nifty 50 index increased by 0.35% to 23,684.2, and the BSE Sensex gained 0.28% to 78,274.35.
Currency Considerations: Despite the rate cut, the Indian rupee continued to weaken, trading near record lows against the dollar. This depreciation could lead to higher import costs and potential imported inflation.
In summary, the RBI's decision to cut the repo rate reflects a strategic response to a decelerating economy and easing inflation, aiming to foster growth while balancing the risks associated with currency depreciation.
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