RBI cuts interest rate by 25 basis points; loan EMIs likely to fall

Mumbai: In a bid to boost sluggish economy before elections, the RBI on Thursday cut interest rate by 25 basis points for the second time in as many months, a move that may translate into lower EMIs for home and other loans.

The six-member Monetary Policy Committee (MPC), headed by RBI Governor Shaktikanta Das, cut the repo rate to one-year low of 6 per cent and reverse repo rate to 5.75 per cent on prospects of benign inflation.

While four of the six members voted in favour of the rate cut, two of them were in favour of status quo.

RBI Deputy Governor Viral Acharya and MPC member Chetan Ghate voted for a status quo in rates. Five of six members voted to keep the stance unchanged at Neutral, while committee member Ravindra Dholakia voted to change the stance to accommodative.

The apex bank cut benchmark interest rate by 0.25 per cent to 6 per cent.

This is also the first back-to-back rate cut since the MPC was formed in late 2016.

The Reserve Bank of India (RBI) in the monetary policy statement said the domestic economy is facing headwinds, especially on the global front, as it lowered its economic growth forecast for 2019-20 to 7.2 per cent from 7.4 per cent estimated in February.

GDP growth had fallen to 6.6 per cent in December quarter, its slowest in five quarters, due to sluggish private investment.

"The need is to strengthen domestic growth impulses by spurring private investment which has remained sluggish," it said. "The MPC notes that the output gap remains negative and the domestic economy is facing headwinds, especially on the global front."

After announcing the rate cut, the RBI governor in a media briefing said that export growth remained weak in January and February this year and imports especially non-oil gold imports declined.

The RBI had last cut repo rate to 6.25 per cent from 6.5 per cent on February 7 and together with the latest reduction, it has reversed last year's 50 basis points increase.

Repo rate is the rate at which the central bank lends short-term money to the commercial banks. And, the reverse repo rate is at which the RBI borrows money from the commercial banks.

Banks take a cue from RBI's monetary policy stance in hiking or cutting lending rates. With back-to-back cuts, home, auto, and personal loan EMIs (equated monthly instalments) are likely to go down although banks are yet to fully pass on the previous cut.

The move came a week before the general elections kick off on April 11.

The reduction in rates was based on RBI cutting its inflation forecast to 2.9-3 per cent rage for the April-September period compared to 3.2-3.4 per cent range it had projected in February.

Inflation, which stood at 2.57 per cent in February, is projected at 3.5-3.8 per cent in January-March 2020 - within the RBI's target of 4 per cent. But, the central bank warned of upside risks to price pressures if food and fuel prices rise abruptly, or if fiscal deficits overshoot targets.

While high-interest rates have often been cited as an obstacle to faster investment growth, rate cut announced on Thursday will help the real interest rates in India to drop below Malaysia and Indonesia.

The RBI had in its Statement on Development and Regulatory Policies on December 6, 2018, asked banks to start using external benchmarks while disbursing new floating rate personal or retail (housing, auto, etc) with effect from April 1, 2019. However, in its policy announcement Thursday, the central bank said it has deferred this move for the time being.

The country's largest lender State Bank of India (SBI), which controls nearly a quarter of the banking system, has already announced that it will be linking its savings deposits rates and short-term loans to the RBI's repo rate from May 1.

Currently, banks follow a system of internal benchmarks, including Prime Lending Rate (PLR), Benchmark Prime Lending Rate (BPLR), Base rate and Marginal Cost of Funds based Lending Rate (MCLR).

In the context of the proposed new system of linking interest rates, the RBI Thursday said it held discussions with stakeholders on various aspects like management of interest rate risk, and time required for IT system upgradation.

"...it has been decided to hold further consultations with stakeholders and work out an effective mechanism for transmission of rates," the central bank said in its 'Statement on Developmental and Regulatory Policies'.

When asked about the timeline for implementation of external benchmarking of interest rates, Das said, "The work is on".

However, he did not commit any date for implementation on the new system aimed at ensuring greater transparency in fixation of interest rates on personal and MSME loans.

Das said the RBI will continue to add liquidity to ease constraints in the banking system by using all instruments available, including open-market bond purchases and currency swap.

The RBI also allowed banks to use an additional 2 per cent from SLR bucket for purpose of Liquidity Coverage Ratio.

The next meeting of the MPC is scheduled for June 3-6.