The Reserve Bank of India (RBI) on Thursday cut its key lending rate from 8% to 7.75%, in a move that is expected to boost business confidence and add momentum to economic growth.
The first cut in repo rate -- the rate at which it lends to commercial banks -- since May 2013 brought cheer to the market. The benchmark index of Bombay Stock Exchange -- Sensex -- jumped 728.73 points to close at 28,075.55. Nifty surged 216.60 points and ended at 8,494.15.
However, experts said the RBI move might take three to six quarters to translate into fresh investments on the ground.
The central bank's move, which came earlier than expected, was guided by a sharp fall in global crude prices and expectations that the government would be doing enough to keep the fiscal deficit in check.
Global crude prices have fallen by half in the past year and are now hovering around $50 per barrel, giving huge relief to economies such as India that import most of the oil they consume.
Petrol has turned cheaper by more than Rs 10 a litre in seven price cuts since August and diesel prices have been cut by more than Rs 6 a litre since October. Slumping crude oil prices and likely further cuts in petrol and diesel prices are expected to keep inflation rates low in the coming months.
The latest data on domestic inflation, which showed prices were rising at a pace deemed tolerable by the central bank, also contributed to the move.
The wholesale price-based inflation rate stood at 0.11% in December, the government said on Wednesday. Data released earlier in the week showed retail inflation rate stood at 5% in December, considered comforting for the central bank.
"Inflation outcomes have fallen significantly below the 8% targeted by January 2015. On current policy settings, inflation is likely to be below 6% by January 2016. These developments have provided headroom for a shift in the monetary policy stance,” the RBI said in a statement.
Indicating that rates could be cut further this year, it added, "Key to further easing are data that confirm continuing disinflationary pressures."
Commercial banks are expected to take a call soon on whether they will follow suit.
RBI governor Raghuram Rajan has been under pressure to cut interest rates, which have been kept high to control inflation and are seen as discouraging demand for new investments and, therefore, keeping the economy from growing faster.
Even in public interactions, the RBI had committed to initiate the process of monetary easing as soon as data indicated that medium term inflationary targets would be met.
In easing its policy on Thursday, the RBI moved cautiously.
It kept the cash reserve ratio unchanged at 4% and the reverse repo rate at 6.75%.Describing the move as a positive development, finance minister Arun Jaitley said, "The RBI's decision to cut the interest rate will lead to more money in the hands of the consumer for greater spending."
Jayant Sinha, minister of state for finance, said, "The rate cut is a signal of the positive momentum being witnessed on the ground. We are now at a point where the economic indicators point at hope in the future. The rate cut is a lagging indicator of the turnaround in the economy. After trying to take a grip on key factors, we are now in a phase of accelerating our growth plans."
Video: Jaitley says slash in repo rate will put more money in hands of consumers