RBI's rate cut provides the much-needed balm to revive the economy

A rate cut by the Reserve Bank of India (RBI) was much expected this time and the Governor did not disappoint. The aggressive cut of 75 basis points (bps) in the repo rate is commendable, as it provides the balm required to revive the economy. This is evidently meant to counter the negative impact of the coronavirus (Covid-19) pandemic. Governor Shaktikanta Das was very prudent in not giving a forecast for growth or inflation because, as he rightly stated, with things changing so fast, it is not certain how long the threat will last and how its spread and depth will impact the economy. Therefore, the policy is directed towards the immediate problem of mitigating the damage caused by the virus.

The RBI has decided to use a novel way to influence interest rates. The repo rate has come down to 4.4 per cent, while the reverse repo rate is now 4 per cent with a difference of 40 bps. The idea is to ensure that banks do not deposit surpluses in the reverse repo auctions, which is averaging Rs 3 trillion on a daily basis. Now, they will be forced to invest their surpluses in credit rather than giving it to the RBI. This is probably the first time that the central bank has changed this corridor size to 65 bps from 40 bps. It will be interesting to see how banks respond, as they would need to be more responsive to the need of the hour and change their mindset to ensure they lend more to companies. Read More