GST reforms expected to lower inflation, create room for rate cut

A rate cut will also depend on how the central bank assesses growth, post the 50 per cent tariff imposed by the US, with the additional 25 per cent came into effect from late August

The rate rationalisation of goods and services tax (GST) is expected to soften prices, potentially creating room for a rate cut by the Reserve Bank of India’s Monetary Policy Committee (MPC), according to economists. They said if the consumer got the full benefit of the cuts, retail prices could fall between 60 and 80 basis points (bps) over 12 months. 

During the August review of the monetary policy, the central bank projected an average inflation rate of 4.4 per cent during January-March 2025-26 while for the first quarter of next financial year, it was estimated at 4.9 per cent. Since the inflation rate is seen to be inching up from January, it is felt there is limited room for a rate cut. 

“As most of the GST cut is applicable to consumer non-durables, which have a higher weight in the consumer price index, the impact on the headline inflation rate could be as large as 60-65 bps on an annual basis,” said Anubhuti Sahay, head (India, economics research), Standard Chartered Bank.

 

The Reserve Bank of India (RBI) has projected the retail-inflation rate for 2025-26 at 3.1 per cent. 

 

“While the GST cut has opened up room for more rate cuts, the MPC might use its limited monetary space more cautiously in an uncertain global environment,” Sahay added.

 

The six-member rate-setting panel reduced the policy repo rate by a sharp 100 bps since February.

 

The rate was kept unchanged in the last monetary policy review meeting.

 

A cut will depend on how the central bank assesses growth, after the 50 per cent tariff imposed by the United States, with 25 per cent of it coming into effect in August.

 

The RBI had projected 6.5 per cent growth in gross domestic product (GDP) for FY26.

 

“There is space to cut from an inflation perspective. The RBI needs to take a call on how it views growth,” said Gaura Sen Gupta, IDFC FIRST Bank chief economist, who estimated an impact on the inflation rate of 60-80 bps, assuming a partial pass-through. She revised FY26 inflation rate estimate to 2.4 per cent from 2.7 per cent previously.

 

”The Q1 (growth) numbers were exceptionally strong, which blew past everybody’s estimates. But there were a lot of one-off factors, which helped. I think the only change is we still have a rate cut either in October or December,” she said.

 

India’s GDP growth in Q1 FY26 (April-June) beat expectations, with the economy growing at 7.8 per cent, well above the RBI’s projection of 6.5 per cent and the strongest in five quarters.

 

Sen Gupta said the GST cuts could add about 60 bps to GDP growth over the next 12 months, with sectors such as processed food, medicines, medical equipment, fast-moving consumer goods, consumer durables, small cars, two-wheelers, and cement set to benefit from lower tax rates.

 

While the stance of the monetary policy is neutral, indicating the rate can go up or down, or stay where it is, MPC members indicated that action would depend on the incoming data.

 

In the August minutes of the monetary-policy meeting, RBI Governor Sanjay Malhotra said retaining the “neutral” stance would provide monetary policy the flexibility to respond to the evolving domestic and global economic conditions.

 

“It will lead to lower inflation on a personal basis because there will be a lower final price for the consumer. So, the inflation will be less ... on the rate cut, we are expecting … probably one or two rate cuts (this financial year). Hopefully, this will come by October, but on that, a closer call can be taken when policy will come up. But the scope is there...,” said Madhavi Arora, chief economist, Emkay Global Financial Services.

 

The next meeting of the MPC is scheduled for September 29 to October 1.