RBI cuts rate, scales down growth outlook

The Reserve Bank of India (RBI) cut key interest rates for the fourth time this year on Wednesday as it strives to boost corporate investment and consumer spending to accelerate stubbornly slow economic growth, which it now expects will not exceed 6.9% in the current financial year, as both domestic and external demand stay weak.

A cut of 35 basis points in the repurchase, or repo, rate, at which the central bank lends funds to commercial banks, took the cumulative reduction since February to 1.1 percentage point. One basis point is one-hundredth of a percentage point. The repo rate is now 5.4%, the lowest in nine years.

“Since the last policy (in June), domestic economic activity continues to be weak, with the global slowdown and escalating trade tensions posing downside risks. Private consumption, the mainstay of aggregate demand, and investment activity remain sluggish,” RBI said in its monetary policy statement.

That prompted the six-member monetary policy committee (MPC) to lower the gross domestic forecast to from 7% in June policy to 6.9%, in the range of 5.8-6.6% for the first half of the fiscal year (April-September) and 7.3-7.5% in the second half (October-March). The forecast had been slashed to 7.4% in February and 7.2% in April, showing that efforts to boost growth haven’t quite worked.

The 35-basis point cut in the repo rate cut was marginally higher than the 25-basis point reduction that had been forecast by most analysts.

RBI governor Shaktikanta Das, who became central bank chief in December after Urjit Patel resigned, told reporters that the MPC viewed a quarter-point move as “inadequate.” A half-point reduction would have been “excessive” and 35 basis-point of easing was deemed “balanced,” he said.

“There’s nothing sacred about multiples of 25,” Das said, referring to the conventional quarter-point moves. “It is a judgment call that the MPC has taken.”

RBI has been the most aggressive central bank in Asia in cutting interest rates this year to boost growth from a five- year low of 5.8% to which it sank in the quarter ended March and spur investments. Finance minister Nirmala Sitharaman had called for “significant” policy easing by the central bank to help revive growth, which slumped in the March quarter to a five-year low of 5.8%.

Some analysts doubt if the rate reduction would help.

“Repo rate reductions only provide enabling conditions to reduce the cost of borrowing. To be effective, adequate transmission needs to take place,” said DK Srivastava, chief policy advisor at the consulting firm EY India. “Further, demand for investment and consumer durables has to increase, which is a function of income much more than the cost of borrowing. To uplift investment sentiments, adequate momentum has to be generated by the fiscal side. Unless capacity utilization improves, investment demand from the private sector is not likely to improve.”

To be sure, the possibility of a decline in loan costs for companies and consumers will depend on commercial banks passing on their own lower cost of funds to borrowers.

“Unless the transmission is swift and full, we may not see a change in the consumption and investment trajectory,” Sandip Somany, president of industry body Federation of Indian Chambers of Commerce and Industry (Ficci), said.

Significantly, State Bank of India, the nation’s largest lender, immediately lowered borrowing costs, albeit by a marginal 15 basis points, across all tenures. Commercial banks, as a rule of thumb, tend to follow the market leader.

SBI’s one-year marginal cost of fund-based lending rate (MCLR) will come down to 8.25% from 8.4% with effect from August 10.

“The SBI has effected full transmission of repo rate cut by the RBI and has passed on the benefit of repo rate reduction by 85 bps {basis points} during the current financial year (FY20) to its cash credit and overdraft customers with limits above ₹1,00,000,” SBI said in a statement.

All members of the MPC unanimously voted to reduce the repo rate and to maintain an accommodative stance, one which is characterised by a succession of cuts in borrowing costs. Four members — Das, Ravindra H Dholakia, Michael Debabrata Patra and Bibhu Prasad Kanungo — voted to reduce the rate by 35 basis points and two — Chetan Ghate and Pami Dua — opted for a 25 basis point cut.

The MPC said past rate cuts are being gradually transmitted to the real economy and the benign inflation outlook provides headroom for policy action. Consumer Price Index (CPI)-based inflation is now projected at 3.1% in the second quarter of fiscal 2020, and 3.5-3.7% in the second half, under the RBI’s medium-term target of 4%.

The central bank said “addressing growth concerns by boosting aggregate demand, especially private investment, assumes the highest priority at this juncture while remaining consistent with the inflation mandate.”

The RBI said various high-frequency indicators suggest weakening of both domestic and external demand conditions. The Business Expectations Index of the RBI’s industrial outlook survey showed muted expansion in demand conditions in the second quarter, although a decline in input costs augurs well for growth, the central bank said.

Amid concerns over growth, even the higher-than-expected interest rate cut failed to cheer stock market investors. BSE’s Sensex, the country’s most closely watched market benchmark, fell 0.77% to 36,690.50 points, the lowest in five months, at the close of trading, having been on a downward spiral and lost in excess of 5% in the past month.

“Growth is the only concern. When things are put in black and white, it does matter,” said Dharmesh Kant, head of research at Indianivesh Securities Ltd.

Gauges of metal producers and automakers — sectors most sensitive to changes in interest rates — were among the hardest hit, falling by at least 2% each.

“The RBI cutting its growth estimate for gross domestic product to below 7%, while widely expected, may not go down well with the market in short term,” said Rajiv Singh, chief executive officer with Hyderabad-based Karvy Stock Broking Ltd.

And some analysts said the policy was bereft of any direct measures to lift waning demand and stem the crisis among non-banking financial companies (NBFCs) that has curbed borrowings by consumers. NBFCs borrow from commercial banks and on-lend to consumers in the form of home, automobile and personal loans.

RBI did take some steps to alleviate the credit crunch at NBFCs and relaxed rules for lending to consumers. It increased the exposure limit for banks to a single non-banking finance company to 20% of core capital from 15%. It also reduced the risk weight on consumer credit excluding card receivables to 100% from about 125%.

The RBI also allowed banks to classify loans to NBFCs for agriculture, small businesses and home mortgages as priority-sector lending, in a bid to ensure credit flows to those key contributors to economic growth and employment.

“It is our endeavour to ensure that there is no collapse of a large or systemically important non-bank finance company,” RBI governor Das said.