Indian economy to pick momentum in H2FY25 amid tax relief, interest rate cuts: RBI Bulletin

The Indian economy will likely get a boost from the pick-up in rural demand and the income tax relief announced in the Union Budget 2025, which is expected to support urban consumption amid interest rate cuts. The Reserve Bank of India (RBI) highlighted in its monthly economic bulletin on Wednesday, February 19, that India's urban consumption is “poised for a recovery.” 

A decline in inflation and a boost to disposable incomes from the "sizeable" income tax relief announced in the Union Budget 2025-26 will help urban consumption. "Strong rural demand is expected to receive a further fillip from the robust performance of the agriculture sector," added the central bank.

The Indian economy is expected to expand at the slowest pace in four years in 2024-25 after GDP growth fell to 5.4 per cent in the July-September 2024 quarter from 6.7 per cent in the previous quarter. Based on the high-frequency data, the central bank's internal models suggest India's GDP growth improved to 6.6 per cent in the January-March quarter this year.

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"Domestic demand is also expected to benefit from the repo rate cut by the Monetary Policy Committee," the report added. The central bank has forecast growth at 6.7 per cent in 2025-26, at the higher end of the government's forecast of 6.3-6.8 per cent. The RBI expects inflation to ease to 4.2 per cent in the next financial year but flagged continuing risk to prices.

In the bimonthly monetary policy meeting of February 2025, the Monetary Policy Committee (MPC) of the Reserve Bank reduced the policy repo rate by 25 bps to 6.25 per cent as growth-inflation dynamics opened up policy space to support growth while remaining focussed on aligning inflation with the target.

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Global risks present upside risk to Indian economy

“While core inflation remains muted, uncertainty in global financial markets, volatility in energy prices and adverse weather events present upside risks to the inflation trajectory,” it said. Regarding global risks, the RBI said a strong dollar and trade policy pivot "could exacerbate the capital outflows from emerging economies, push risk premiums higher, and intensify external vulnerabilities."

Regarding liquidity in the financial system, the central bank announced several measures, including open market operations and variable rate repo auctions, to inject funds. However, the coexistence of a liquidity deficit and banks placing funds under the standing deposit facility shows a “skewed distribution of the liquidity in the banking system,” said the RBI in its bulletin. 

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Some banks are also reluctant to lend in the uncollateralized money market. The RBI added that trade-related policies are shaping the outlook for the global economy, which could stoke inflation and heighten market turbulence. “The ‘last mile’ of disinflation may become more challenging in such an environment, potentially requiring central banks to recalibrate policies,” it said.