RBI cuts rates for third time to put growth on firmer footing

The Reserve Bank of India (RBI) cut interest rates for a third time this year on Tuesday, taking advantage of subdued inflation to give more support to an economy that many economists doubt is doing as well as latest impressive growth numbers suggest.

The RBI's quarter point reduction in the repo rate to 7.25 per cent was predicted by 35 of 48 analysts polled by Reuters.

Previous cuts, in January and March, had also been by 25 basis points.

The reduction showed policymakers recognised the need to put the economy on a sounder footing, regardless of data released on Friday that showed India outpaced China by growing 7.5 per cent in the March quarter. "We still have very weak investment. We haven't seen a strong pick-up," RBI Governor Raghuram Rajan told a newsconference, adding that there were factors to suggest that growth was weaker than the headline numbers made out.

"In general, the corporate results have been quite weak also suggesting that final demand is yet to pick up strongly," Rajan said.

Many economists, inside and outside the government, suspect a new way used to calculate gross domestic product has overstated how fast India is rising.

Still, the RBI did not take any new steps to free up cash-strapped commercial banks' liquidity, which bankers had said were needed for them to lower lending rates further and pass on the benefits of monetary easing to the broader economy.

Instead, with growth in bank lending at its lowest in almost two decades, the RBI bank urged banks to reduce rates quickly.

"Meanwhile, banks should pass through the sequence of rate cuts into lending rates," the RBI said in its statement.

Easing over or room for more?

Markets had already discounted the RBI cut. After the move the broader Nifty stood 1.4 per cent down from Monday's close.

India's benchmark 10-year bonds fell 3 basis points to 7.85 per cent, and the rupee was little changed at 63.77 per dollar, having ended Monday at 63.72.

Analysts were split about whether the RBI would ease further.

A recent Reuters poll had shown most analysts expected another 25 basis points cut between October and December.

The RBI warned it would closely track inflationary trends, citing risks posed to food prices if monsoon rains are weaker than expected, or global crude prices recover, or the rupee weakens due to volatility in global markets.

Consumer price inflation hit a four-month low of 4.87 per cent in April, well within the RBI's target range of 2 to 6 per cent.

But the central bank also projected inflation would rise to 6.0 per cent in January 2016, setting up the possibility of no more rate cuts this year.

For now, the rate reduction answered calls from both the government and businesses for the RBI to do more to help growth gather momentum.

Investors are hoping that Prime Minister Narendra Modi's economic reforms and aggressive spending on infrastructure will take the under achieving economy to another level.

The latest rate reduction showed the RBI's confidence that that India was in good shape to withstand any market turbulence when the Federal Reserve finally decides to raise interest rates, as it is expected to do later this year.

The RBI cut came just weeks after China made its third interest rate reduction in six months, but growth in India's giant neighbour has been slowing down.

Having embarked on an easing cycle in January, the RBI's latest move also completed a reversal of the rate increases ordered by Rajan between September 2013 to January 2014, when India was suffering double-digit inflation.

"I would characterise the policy today as neither conservative nor aggressive. In some sense, it is a Goldilocks policy: just right given the current situation," Rajan said.

Image: Reserve Bank of India (RBI) Governor Raghuram Rajan speaks at a news conference after the bi-monthly monetary policy review in Mumbai.

Photograph: Danish Siddiqui/Reuters