RBI shifts focus to growth with sharper 50 bps rate cut

The Reserve Bank of India (RBI) on Tuesday announced a larger-than-expected 50 basis points (bps) cut in repo rate to 6.75 percent, as inflation worries had eased. The move is also an effort to push up domestic demand as growth had slackened.

Most economists had expected the RBI to cut the repo, the rate at which the RBI lends to commercial banks, by 25 basis points. This cut is the largest such move by RBI governor Raghuram Rajan since he took charge in September 2013, bringing the repo rate to its lowest level since March 2011.

The benchmark 30-share Sensex cheered the rate cut, erasing all its pre-policy intra-day losses, trading up 169.37 points or 0.66 percent up at 25,786.21 points.

Explaining the factor for a bigger rate cut, Rajan said: “The external factors have weakened, particularly in the form of commodity and oil prices. Also since we last met, the bulk of the conditions have been met. While capacity utilisation is expected to weaken, we felt there was room for domestic demand (which is non-inflationary) to go up.”  

“Under these circumstances, monetary policy has to be accommodative to the extent possible, given its inflation goals, while recognising that continuing policy implementation, structural reforms and corporate actions leading to higher productivity will be the primary impetus for sustainable growth,” the governor said in a statement released on the bank’s website.

“Investment is likely to respond more strongly if there is more certainty about the extent of monetary stimulus in the pipeline, even if transmission is slow,” Rajan said, stating that this pushed the central bank to front-load policy action by 50 basis points.

Analysts and economists called the current move a ‘game changer’. "This is a game-changing event. The RBI has done its bit with a larger cut. The government must accelerate the reform process now," said Nirmal Jain, chairman of IIFL Holdings.

“The tone and the action of the policy is surprising,” said Shubhada Rao, chief economist from Yes Bank, who expected a 25 basis point cut. “There is a clear shift of focus (from inflation) to growth,” she said.

The clamour for an interest rate cut from business leaders and economists had been growing louder in recent weeks as inflation based on the consumer price index (CPI) slowed to a record low of 3.66 percent in August. India’s finance minister Arun Jaitley has, in recent weeks, reiterated that conditions are right for rates to come down.