RBI cuts rates to 9-year low in bid to spur growth
Corporate and consumer loans will get cheaper with the Reserve Bank of India (RBI), expectedly, cutting the policy rate by 0.25 percentage points to 5.75% on Thursday, its third consecutive rate cut this year, in an attempt to reverse the slowdown in economic growth and boost consumer spending.
The policy rate is now the lowest it has been since July 2010, a year when the RBI effected a staggering six interest rate increases to combat stubborn inflation.
Inflation is now well under control, and in its bimonthly monetary policy review, the monetary policy committee (MPC) of RBI also changed its policy stance to “accommodative” from “neutral”, which means that it could cut the rate again, and then again, if growth doesn’t pick up. If there was still any doubt on RBI’s primary focus now, the central bank’s governor set it to rest. “The accommodative stance basically means that the rate hike is off the table,” said Shaktikanta Das.
RBI’s move highlights growing concerns in the central bank and also in government circles about growth. On Thursday, the government set up a special Cabinet committee of senior ministers to deal with growth and investment-related issues.
Last week, the official data showed that India’s gross domestic product (GDP) growth rate slipped to a five-year low of 5.8% in the January-March quarter and that the annual growth slowed to 6.8% in FY19. Against this backdrop, RBI has revised its growth forecast for 2019-20 down to 7% from 7.2%.
“A sharp slowdown in investment activity along with a continuing moderation in private consumption growth is a matter of concern. The headline inflation trajectory remains below the target mandated. Hence, there is scope for the MPC to accommodate growth concerns by supporting efforts to boost aggregate demand, and in particular, reinvigorate private investment activity, while remaining consistent with its flexible inflation targeting mandate,” RBI said in its monetary policy statement.
Watch | RBI cuts repo rate by 25 basis points, policy stance now ‘accommodative’
As reflected in that statement, both investment and consumption growth are flagging.
“The tone of the policy and the guidance seem to suggest that the RBI is adequately worried about growth even as it is comfortable on the evolution of the inflation trajectory. The tone of the policy communique was dovish. Scope for further rate cuts (beyond August) will depend on extent of further growth slowdown and downside to inflation from RBI’s estimated levels,” the Kotak Institutional Equities said in a note on Thursday.
Meanwhile, RBI raised its consumer price index (CPI) inflation projection for the first half of the year to 3-3.1% from 2.9-3% while marginally reduced the second-half inflation outlook to 3.4-3.7% from 3.5-3.8%, with risks broadly balanced. The reason for the revision, RBI said, was factors such as sharper-than-expected seasonal rise in vegetable prices and pick-up in prices in several food items while weakening of domestic and external demand and forecast of normal monsoon.
The India Meteorological Department continues to maintain its forecast of a normal monsoon, although it has admitted that the onset is delayed. Usually, the monsoon makes landfall in Kerala on June 1. This year, it still hadn’t till June 6.
The magnitude of MPC’s concern over growth is also reflected in the fact that this is the first time in recent reviews that the decision on a rate cut has been unanimous.
The cut also sets the tone for the Union Budget next month, experts said, adding that the latter is expected to be growth-oriented.
Expectations are that banks will pass on the rate cut by lowering their lending rates and in turn possibly lowering the equated monthly instalments (EMI) that individuals pay on home and consumer loans.
“The banks will cut lending rate but it will get passed on to the consumer with a lag — probably faster than last time. Only after deposit rates get repriced will you see the change in lending rates. The new deposits will come at a lower rate after the individual banks’ asset-liability committee meets next. Also, banks have been making attempts to link their deposits to external benchmark rates to enable transmission immediately,” said Ashutosh Khajuria, chief financial officer at Federal Bank.
Transmission of recent rate cuts has been slow. “Transmission of the cumulative reduction of 50 bps (basis points; one basis point is a hundredth of a percentage point) in the policy repo rate in February and April was 21 bps to the weighted average lending rate (WALR) on fresh rupee loans. However, the WALR on outstanding rupee loans increased by 4 bps as the past loans continue to be priced at high rates,” RBI said in its statement.
“The RBI policy decision to change the policy stance to ‘accommodative’ will simultaneously help the financial system to navigate to a lower-term structure of interest rates,” said Rajnish Kumar, chairman, State Bank of India, India’s biggest lender.
Banks have been blaming low deposit growth for lack of rate cut transmission. According to Motilal Oswal Research, deposit growth of banks has been in the single digits for the past 40 months -- for the first time in more than half a century. RBI, however, has been easing liquidity in an effort to offset this. “Liquidity in the system turned into an average daily surplus of ~66,000 crore in early June after remaining in deficit during April and most of May due to restrained government spending,” RBI said in a statement.
“Liquidity in the banking system has seen a movement from deficit to positive zone. It is important to see this situation continues to ensure credit transmission. India rates would continue to find anchor and maintain a softening bias going forward,” said Lakshmi Iyer, chief investment officer (debt) and head products, Kotak Mahindra Asset Management Co. Ltd.
The stock market didn’t cheer the rate cut, perhaps because of the underlying concern on growth. The benchmark Sensex fell 1.38%, or 553.82 points, to close at 39,529.72. The yield on 10-year bonds fell nine basis points, an 18-month low, of 6.933% from its Tuesday’s close of 7.02%. Bond prices and yields move in opposite direction. The rupee closed flat to 69.28 to the dollar, up 0.03% from its previous close.