Opinion
Despite RBI's rate cut, spurring GDP growth is an uphill task
Summary
- India’s central bank has pivoted its policy in favour of economic growth over price stability amid uncertainty on both. It can’t really do all that much, however, to pep up the economy’s expansion.
The interest charged on loans is the most important price in an economy. And its rate is nudged up and down by the lender of last resort—the Reserve Bank of India (RBI) in our case—for good reason. It helps keep the economy’s growth path stable. Inflation held on a tight rein, RBI’s explicit mandate since 2016, is aimed not just at public relief on the cost of living, vital in itself, but also at easing the cost of capital: it lessens the risk of lenders being repaid less in real terms because of a shrunken rupee.
On Friday, RBI Governor Sanjay Malhotra did well to defend its inflation targeting framework in his first monetary policy statement since taking charge. He also announced a policy rate cut of a quarter percentage point. In its first such easing move since the 2020 covid outbreak, RBI’s Monetary Policy Committee (MPC) reset its repo rate to 6.25%. “The MPC, while continuing with its neutral stance," Malhotra said, “felt that a less restrictive monetary policy is more appropriate at the current juncture."
Also Read: Monetary policy: Surely, a rate cut could’ve waited for some clarity to emerge
RBI’s top priority has thus pivoted from quelling inflation, which it forecasts at 4.2% in 2025-26 on average, a tad above the midpoint of its target band, to credit-fuelling the economy, expected to slow to 6.4% in 2024-25, with only a slight uptick next fiscal year.
To relieve banks of a liquidity squeeze, it deferred new norms on liquid assets held as a cushion against flash withdrawals online. This follows its recent liquidity boost. RBI also gave lenders a breather on other prudential tweaks, arguing that macro-level efficiency matters as much as stability, apart from putting its own contingency buffer under review.
Also Read: Indian banks’ liquidity crunch is partly RBI’s own doing
Although cheaper credit usually cheers asset markets, Friday’s rate cut saw both bond prices and stock indices drop in its wake. RBI’s postponed hike in the liquidity coverage ratio of banks will weaken short-term demand for government bonds, so prices fell (with the effect of newly allowed forward trades yet to kick in). Bank shares slid on fears of squeezed interest margins, as repo-linked lending will cheapen at a time low-cost retail deposits are proving hard to attract.
Plus, global uncertainty has cast a long shadow on both equity and debt markets. Amid choppy trade, a mighty dollar and a flight of capital to safe-haven assets, a dip in the relative appeal of Indian assets to foreign investors could spell further outflows.
The rupee, RBI said, would be allowed to find its own level in the forex market. And while it admitted a risk of imported inflation on the back of a weaker currency, it held that the budget’s tax relief would not be inflationary. Yet, given that inflation and growth are both iffy variables that may defy RBI’s outlook, markets can’t be sure if its rate cut marks an easing cycle or a nod to the worry of an economy growing below 8% annually.
Can our economy expand that fast? And will easier money coupled with an income-tax cut revive private spending? No doubt, we need shoppers to shop more and businesses to invest more. What’s hazy is the extent to which this double-jab stimulus will work in a scenario of skewed prosperity and global headwinds.
Also Read: MPC review: Rate cut not ideal yet. Rely on surplus liquidity and operation twist instead
As we must depend more on domestic sales to expand output, subdued or stagnant earnings among homes that form the bulk of our pyramid loom even larger as a speed bump. Growth boosters cranked up to recover from the covid crunch have done little to broaden our base of upward mobility.
All said, an RBI tilt in concern from price stability to growth won’t help much if the price of money is only a minor constraint.
