India's central bank cuts interest rate for the fourth time this year

• RBI cuts repo rates by 35 basis points, higher than expectations of 25 basis point cut
• The effective rate at which RBI will now lend to banks is at 5.4%.

The Reserve Bank of India (RBI) today cut its key lending rates by 35 basis points or 0.35%, which is higher than market expectations. This the fourth consecutive repo rate cut that RBI has done, after cutting rates by 25 basis points for the last three policies.

The effective rate at which RBI will now lend to banks is at 5.4%.

RBI Governor Shaktikanta Das today said that they chose to cut rates by 35 basis points instead of the conventional 25 basis points as the latter might turn out to be inadequate due to current macroeconomic conditions. “The size of the rate cut should be calibrated to the dynamics of the situation. With inflation within target, addressing growth concerns especially private investment is of the highest priority,” Das said in the press conference. This will help increase credit and money supply in the market to reignite the sputtering growth engines.

Das said that 50 basis points have been excessive, so 35 basis point cut is balanced. The central bank projected an inflation of 3.1% for the second quarter of 2019-20. It also cut its GDP growth estimate to 6.9% from 7% for the current financial year.

Unpleasant arithmetic
India’s economic growth slipped to 5.8% at the end of the March quarter, the slowest quarter in five years. Things have turned for the worse since then. “The month of August has always unpleasant arithmetic. Banks will cut deposit rates further and lending rates will witness a faster incremental fall in coming months. This could aid recovery, but it is unlikely before late Q3FY20,” said a report by SBI Ecowrap on the month’s RBI policy.

A few experts also believed that RBI could wait and watch, though a majority expect a cut since they do not have to worry about inflation which is not high--a factor that could derail a possible cut.

“The RBI may also like to wait for another two months to be sure of the inflation path before lowering rates further as it has been indicated that the RBI has so far virtually lowered rates by 100 bps – three times through the repo and once by changing the stance to accommodative,” said a report by CARE Ratings.

A mountain of bad loans
Banks, caught between a cash crunch and a mountain of bad loans, have not reduced lending rates despite many nudges and winks from the regulator as well as prodding from the Finance Minister Nirmala Sitharaman. “The transmission of rate policy action has been less than satisfactory and the RBI may work on nudging banks to do so instead of lowering the rate once again,” said CARE.

Non-banking financial companies or NBFCs, companies that aren’t banks but make loans, are facing liquidity crunch and the crisis is deepening. They, in turn, have stopped lending which has further slowed down the economy particularly in spaces like automobiles and real estate.

Monthly auto sales, for instance, fell for the ninth straight month in July.