Reserve Bank of India cuts policy repo rate by 40 bps

The Indian central bank, Reserve Bank of India, delivered another unscheduled rate cut. The RBI lowered its policy repo rate by 40 basis points to a historic low of 4 percent today. According to the central bank, the Indian economic growth is expected to shrink in 2020. The coming high frequency data and the extension of lockdowns in productive states are being a major drag on the economic growth.

Nevertheless, the timing of the rate cut was interesting. It is possible that the unscheduled rate cut was timed to maximize the effect of the government’s recent decision to assume the credit risk associated with certain types of lending, especially to small and medium enterprises, noted ANZ in a research report.

The government’s assumption of risk was a significant and positive feature of the government’s stimulus programs. It increases the propensity of banks to lend and encourages them to pass on any reductions in the policy rates, leading to better transmission. Owing to bank’s diminished propensity to lend, India’s financial system has been in a unique situation in recent months, experiencing soft credit growth in the midst of a strong liquidity surplus.

“To further fortify bank lending, the RBI has extended the moratorium on term loans, by additional three months. This is expected to help households with mortgages, in particular. We should however, bear in mind that the current growth environment and the fragile state of the financial sector even before the pandemic will inhibit a meaningful rebound in credit, even with these measures. We also await operational details of the government’s guarantee program. Issues like the duration of the guarantee, sectors to which it is available, and long-term restructuring obligations will be important considerations for banks to raise lending”, added ANZ.