RBI bends, cuts repo rate by 25 bps to 7.5%

The finance ministry finally had its way as the Reserve Bank of India announced a surprise rate cut a day after it signed an agreement with the ministry on inflation targeting (See: RBI, govt in pact to bring inflation below 6% by January 2016).

Raghuram RajanRBI reduced the policy repo rate under the liquidity adjustment facility (LAF) by 25 basis points from 7.75 per cent to 7.5 per cent with immediate effect, bringing the repo rate down 0.5 percentage points since the beginning of the year.

Consequently, the reverse repo rate under the LAF stands adjusted to 6.5 per cent, and the marginal standing facility (MSF) rate and the Bank Rate to 8.5 per cent with immediate effect.

RBI, however, kept the cash reserve ratio (CRR) of scheduled banks unchanged at 4.0 per cent of net demand and time liabilities (NDTL).

The central bank said it would also continue to provide liquidity under overnight repos at 0.25 per cent of bank-wise NDTL at the LAF repo rate and liquidity under 7-day and 14-day term repos of up to 0.75 per cent of NDTL of the banking system through auctions.

RBI said the decision has been taken in view of the still weak state of certain sectors of the economy and the time lag between the previous monetary policy review and the next bi-monthly statement, due on 1 April, as well as the global trend towards easing, which suggests that any policy action should be anticipatory once sufficient data supports the policy stance.

Also, with the release of the agreement on the monetary policy framework, it is appropriate for the Reserve Bank to offer guidance on how it will implement the mandate, it added.

Going forward, RBI said, it would seek to bring inflation rate to the mid-point of the band of 4 (+/-) 2 per cent provided for in the agreement, ie, to 4 per cent by the end of a two year period starting fiscal year 2016-17.

RBI said, its guidance on policy action given in the fifth-bi-monthly monetary policy statement of December 2014 is largely unchanged.

Further monetary actions will be conditioned by incoming data, especially on the easing of supply constraints, improved availability of key inputs such as power, land, minerals and infrastructure, continuing progress on high-quality fiscal consolidation, the pass through of past rate cuts into lending rates, the monsoon outturn and developments in the international environment.

RBI said it has also taken stock of the possible spill over of volatility from international financial markets through exchange rate and asset prices channels is also still a significant risk.

In its statement on monetary policy of 15 January 2015, RBI had said that the ''Key to further easing are data that confirm continuing disinflationary pressures. Also critical would be sustained high quality fiscal consolidation…''.

While maintaining the interest rate stance in its sixth bi-monthly monetary policy statement of 3 February in the absence of new developments on inflation or on the fiscal outlook, RBI had indicated that it would keenly monitor the revision in the consumer price index (CPI) with regard to the path of inflation in 2015-16 as well as the union budget for 2015-16.

''The uncertainties surrounding any inflation projection are, however, not insignificant. Oil prices have firmed up in recent weeks, and significant further strengthening, perhaps as a result of unanticipated geo-political events, will alter the inflation outlook. Other international commodity prices are expected to remain benign, given still-sluggish global demand conditions. Food prices will be affected by the seasonal upturn that typically occurs ahead of the south-west monsoon and, therefore, steps the government takes on food management will be critical in determining the inflation outlook,'' RBI noted.