DM Deshpande
The RBI surprised everyone including the markets by front loading the liquidity easing measures. The cut in all important repo rate was on cards but knowing that central banks tend to tread cautiously, the general opinion was a reduction by 25 basis points. However, in what can only be described as a bold move, the apex bank not only cut the rate by 50 basis points but also reduced the Cash Reserve Ratio (CRR) by 100 basis points.
Before the rate cut announcement in its quarterly MPC meeting, the NSO reported a 7.4% growth in GDP for the last quarter of FY25. This too was a pleasant surprise as the growth scenario did not look all too bright. Yet taking all factors into account the MPC has retained the growth estimate at 6.5% for FY26.
Perhaps buoyed by the drop in rate of inflation to 3.7% (from the earlier projection of 4% for the current year) and the need to prop up growth, the RBI committee has overwhelmingly voted for a 50 basis point; one member, though, thought that the reduction ought to be no more than 25 basis points.
This is the third rate cut in a row since Feb. 2025; the earlier two were 25 basis points each. Now the repo rate stands at 5.5%. This measure ought to result in substantial savings in EMI’s for home and car loan borrowers.
The RBI Governor has quickly sounded a warning that there isn’t ‘perceptible visibility’ of transmission of previous rate cuts to the borrowers though it is better than in the past. He also noted that while the fixed deposit rate cuts are swifter, the reductions on loans take a longer time.
If the transmission does not take place as expected, it defeats the purpose of the RBI’s move.
Banks’ loan growth has slowed down sharply to 9% owing to demand and other constraints in the economy. In fact, in some sectors, it has contracted on an overall basis. The CRR reduction by 100 basis points will free up about Rs 2.5 lakh crore of bank funds. This will have two fold effects.
One, now the banks will be able to earn interest on this amount. Second, to be able to do so, they will have to enhance their lending activity. At lower lending rates, perhaps, there will be greater demand for loans.
Since the pandemic, demand and hence consumption have not picked up. Return to normalcy has perhaps been interrupted by disruptions due to wars, skirmishes and geopolitical tensions across the globe. Even while the Q4 growth for FY25 was estimated at 7.4% private consumption grew by no more than 6% and its share in the economy came down to 53% from 60% in the previous quarter.
Much of the growth of the last quarter may have come from capex spending by the government, typically on building roads and other infrastructure projects. Economic growth, however, cannot be sustained only by government expenditure.
The private sector has to pitch in but it seems to be constrained by lack of overall demand. There are some key indicators of demand not being well spread. If one takes a look at cars and homes, mostly the expensive ones are being rolled out while the cheaper and moderate variety are hardly seen in the market.
Automobiles and real estate are huge employment generators; if they are languishing, the job scenario is bound to be dim. In tandem, manufacturing too is not doing well with big corporations pruning their workforce.
The monsoon season has started earlier than usual and rains are predicted to be normal. This should put away some worries with regard to the huge agricultural sector. But here again labour wages have stagnated for a long time.
As the RBI governor rightly pointed out, monetary policy can only do this much; it is a necessary condition for loan growth but not a sufficient condition. The premier bank has already sounded a warning that there is no further room left for manipulation by the monetary policy.
Come next year, the inflation may inch up to 4 to 4.5% due to low base effect. That also explains why the RBI has changed its stance from ‘accommodative’ to ‘neutral’. It is difficult to predict the external sector; the ongoing wars and disruptions, the global trade threats due to raising tariff walls and counter actions. Energy prices in key world markets remain as volatile as ever; if they rise there is no escape from its impact on Indian inflation.
In a matter of few months the RBI has made way for cheaper loans three times. On its part, the government has given huge fiscal concessions-all with an aim of putting more money in the hands of the people and propelling the demand in the economy.
If the demand for goods and services does not still pick up, then there is a structural problem; may be citizens are simply not earning enough to spend beyond basic necessities. Then the ball will be back in the government’s court. It will have to think of remedies to prevent the economy and people from getting stuck in lower/middle income trap. That will be a tall order to rethink and prioritise skills and education, making conduct of business easier and incentives for firms and spending on health and basic infrastructure in the economy.
The author has four decades of experience in higher education teaching and research. He is the former first vice-chancellor of ISBM University, Chhattisgarh
