The Reserve Bank of India cut interest rates by 25 basis points for the first time in six months and announced a trillion-rupee bond purchase plan.
The Reserve Bank of India (RBI) cut interest rates by 25 basis points on Friday and announced a trillion-rupee bond purchase program, injecting liquidity into the economy as inflation hits a historic low. Central bank governor Sanjay Malhotra stated that this move is aimed at countering the threat of high US tariffs and supporting the rupee—the worst-performing currency in Asia this year.
With this rate decision, the RBI Monetary Policy Committee unanimously decided to lower the repo rate from 5.50% to 5.25%, marking the first rate cut in six months. At the same time, the central bank will purchase bonds worth 1 trillion rupees ($11 billion) this month and conduct a $5 billion foreign exchange swap operation.
After the announcement, the rupee briefly rose against the dollar but then fell back, dropping from 89.78 to 89.92 rupees per dollar, continuing its 5% decline this year. Weak trade and capital flows combined with harsh US trade tariffs pushed the rupee below the 90 mark earlier this week. India's benchmark 10-year government bond yield fell by 6 basis points to 6.45%, the biggest drop since August 28.
Historic low inflation creates room for policy adjustment
Malhotra stated that low inflation and strong economic growth mean India is experiencing a "rare golden period."
The central bank lowered its inflation forecast for this fiscal year from 2.6% to 2%, and raised its growth forecast from 6.8% to 7.3%. October's inflation rate dropped to 0.25%, far below the central bank's 4% target, mainly driven by falling food prices.
Most of the 44 economists surveyed by Bloomberg expected the rate cut, but some analysts predicted the RBI would keep rates unchanged after the rupee hit a record low. The economy grew more than 8% in the last quarter, but exports plummeted after Trump imposed a 50% tariff on Indian goods.
Dhiraj Nim, an economist at ANZ, stated that since the US Federal Reserve is expected to loosen policy in December, this rate cut should not overly weaken the rupee because it will maintain the interest rate differential between the two markets. He believes this may be the last rate cut, and going forward, the central bank will mainly support the economy with liquidity measures.
Bond purchase program aims to offset impact of dollar market intervention
The central bank’s bond purchases are expected to offset the capital drain caused by selling dollars in the foreign exchange market to support the rupee.
VRC. Reddy, head of funds at Karur Vysya Bank, said this policy is conducive to policy transmission, will supply liquidity, and push down bond yields. He expects the 10-year yield to further drop to 6.40% by the end of December. On Friday, the one-year onshore forward premium fell by 16 basis points in the secondary market to 2.37%.
The central bank will also conduct a $5 billion foreign exchange swap operation—buying dollars and selling them back in three years.
Malhotra emphasized that the main purpose of open market bond purchases is to inject base liquidity, rather than influence bond yields. Despite adverse external challenges, the Indian economy shows remarkable resilience, and the room provided by the inflation outlook enables the central bank to keep supporting growth.
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