Reviews And Highlights:
- In a big boost for the markets and economy Dr. Raghuram Rajan has cut down the repo rate by 50 basis points from 7.25% to 6.75% – the rate at which RBI lends to the commercial banks. This has been the highest downward change since 2012. The major reasons for the rate cut are:
Due to devaluation of Chinese currency the equity markets, prices of commodities and currencies have fallen down sharply which has allowed RBI to cut the interest rate.
Also the downward fall in interest rates would act as catalysts for investment revival going hand in hand with the favorable Govt. measures.
The Reserve Bank of India’s (RBI) decision to cut interest rate by 50 basis points has been against the background of stable inflation indicators, for stable economic growth, and is expected to strengthen the investment demand in the economy.
To increase the private domestic demand along with the influx of Foreign direct Investment (FDI).
- Rajan has kept the CRR unchanged at 4% as RBI is making efforts to ease liquidity in the system.
- RBI is expecting that in effect to the cut in the repo rate banks will pass on the entire benefits to the borrowers.
- FPI investments limit in debt securities to be fixed in rupee terms.
- Weak global economic environment not good for India as it would be testing time for exports and therefore as a country which is dependent on external borrowings it may not necessarily be great source of comfort on that front.
- Tentative economic recovery is underway, but far from robust- Agriculture production is expected to be higher from last year but partly monsoon offset has adverse effects on the crop production.
- RBI to issue final guidelines on base rate computation by November end.
- Fifth Bi-Monthly Monetary Policy on December 1.
Positive Impact: The Right Medicine Just In Time!
A 50 basis points cut is the right signal to market and consumers which will give rise in the demand and will further boost consumption.
Accommodative Monetary Policy: When a Central Bank attempts to expand the overall money supply to boost the economy when growth is slowing (as measured by GDP). This is done to encourage more spending from consumers and businesses by making money less expensive to borrow by lowering the interest rates.
Positive Move: 50 bps rate cut by RBI is a positive move. They have delivered beyond expectations and this would give a new lease of life to the domestic manufacturing and infrastructure sectors.
For consumers: Home and auto loans have become cheaper. Housing looks to be the next growth engine and is getting legitimate attention. Especially at the start of festive season, the rate cut will bring loads of cheers to the economy as people are positive and will spend more. Loan eligibility will rise, meaning there will be more borrowers for the higher amount of funds in the market which will further give rise to the economic growth prospects in our economy.
For Investors: Bond funds will see gains as the net asset value will rise – this is when the interest rates fall down and vice versa. This will ensure the bond fund managers about the stability in the market and the investors who have shield away from bond funds could now start to take a re-look at these funds.
Equity markets have risen:
- The stock markets reversed early losses after the RBI cut its interest rate by 50 basis points which are double in comparison to the expectations of 25 basis points by the market analysts.
- This allowed for steady increase in foreign investment limit in Govt. securities.
- The BSE Sensex closed 161.82 points up at 25,778.66. Nifty closed 47.60 points up at 7,843.
- Lower interest rates will impact more consumption adding on to the growth which would further mean high profit and better valuations. This will give rise to the situation where money will move from lower yielding debt segments to the equity market.
For Business: Lower interest rates will spur the demand through increase in the consumption levels in the economy. Real Estate and automobiles would gain as home and auto loans have become cheaper.
New investment will pick up as lower rates will improve project viability (Every project has stated outcomes that need to be met in order to be “viable” or prudent and profitable in terms of cost, time, quality and manpower).
For Banks: Mixed Impact is expected from the banks. Pressure to reduce the lending rates immediately will squeeze interest rate margins (the difference between the interest the bank pays on deposits and the interest it charges on loans). But lower interest rates will help them book profits on bond portfolio (a portfolio that invests exclusively or predominately in bonds) and increase lending.
Negative Impact:
- Flight Of Capital: Interest rate parity (The theory in which interest rate differential between two countries is equal to the differential between the foreign exchange rate and the spot exchange rate) is the reason behind balancing of currency rates. Lower interest rates will not attract capital which is looking for higher yields, which would mean that the currency would weaken. If Federal Reserve opts to increase the interest rate the differential between India and the U.S will reduce further, resulting in flight of capital.
- India’s capital utilization is still very indifferent.
- India’s weak monsoon rains or reversal in global commodities prices could still push inflation up.
- Slack in the economy- inflation is low but private investment is failing, exports are shrinking, and domestic demand is not really living up to what people expected.
Why he did it!
- Important to make sure that word ‘sustainable’ and ‘growth’ should go together.
- Intent is to use all tools to supply liquidity as needed in our economy.
- Since the rates have been lowered down borrowers would stand to benefit which will further help in increasing the money supply in the economy.
- Inflation prices have been lowered, consumer price inflation now at 5.8%.
- Concerted efforts to enhance the use of technology and move towards “less-cash” society.
- Lower industrial capacity utilization indicates that more domestic demand is needed to substitute for weak global demand (due to Chinese and Greece Crisis) so that domestic demand picks up.
NEXT BIG TARGET:To work with the Govt. to remove restrictions for banks to pass on 125bps rate cut, says Governor.
This blog is written By Alisha Jhalani, student of (MBA -FP student- 2015-2017), Delhi Campus