RBI governor Raghuram Rajan finally did it. Call it political pressure or the need of the hour, but a 50 basis points cut is now a reality.
Though the GDP target has been cut, markets are clearly rejoicing the sharp interest rate cut, which is twice the general expectation of 25 basis points.
So what does this cut means to the various segments of the economy? Business Standard takes a quick look at the top five implication of the greater-than-expected cut. This, of course, is subject to banks following up on RBI’s announcement and transmitting the RBI’s reduction in interest rates to borrowers and depositors.
1. Mortgage: Lower interest rates would directly impact all type of mortgages like housing loan, car loan, and personal loans, among others. Lower interest rate is expected to push demand in these segments, which will have a cascading impact on the entire economy. Here the assumption is that the mortgage has been taken on a floating rate basis. For fixed interest rate mortgages there is unlikely to be any change.
2. Savings: One of the first rates that banks generally cut when the central bank announces a rate cut is in deposit rates. Banks do not want to take the risk of raising high-cost funds at a time when the borrowing rates are falling. Saving rates, be it a savings bank account or fixed deposit will go down from investors. Money markets which are the first to react will see their interest rates fall.
3. Economy: In the recent interaction between the government and corporate India it was pointed out that there are two main reasons why corporate India is not investing in the economy. First was the ease of doing business and second were high interest rates. Setting up capacity during a high interest era impacts the cost of the project and viability of the project. Now with lower interest rates the ball is in the government’s court to announce policy changes in order to prompt corporates to invest.
4. Currency: Interest rate parity is the reason behind balancing of currency rates. Lower interest rates will not attract capital which is looking for higher yields, which would mean that the currency would weaken. If the Federal Reserve opts to increase interest rate the differential between India and the US will reduce further, resulting in further flight of capital.
5. Equity Markets: Equity markets are expected to gain on multiple reasons. First the positive impact on consumption on account of lower interest rates would mean better topline growth. Lower interest outgo would also mean high profit and thus better valuations. Further, lower interest rates means that money will move from lower yielding debt instruments to the equity market.