Context:
A softer inflation print in February 2025 is unlikely to push the Reserve Bank of India (RBI) toward aggressive rate cuts, as system liquidity remains in deficit and the full transmission of the recent 25 basis point (bp) cut is still in progress, according to economists.
Inflation Trends & Forecasts
- February 2025 CPI inflation: 3.61% (lowest since July 2024), down from 4.3% in January.
- Food inflation decline (led by lower vegetable prices) was a key factor in easing inflation.
- UBS Securities projection: Average CPI inflation of 4.2% in FY25-26.
RBI’s Interest Rate Policy & Liquidity Conditions
- In February 2025, the RBI cut the repo rate by 25 bp to 6.25%, marking its first rate reduction in nearly five years.
- Banking system liquidity remains in deficit (₹1.38 trillion as of March 12), delaying the full transmission of the rate cut.
- The RBI has introduced liquidity measures like:
- Open market operations
- Daily variable rate repo auctions
- Foreign exchange swaps
Market Response & Policy Transmission Challenges
- Corporate bond spreads and state government securities spreads over government bonds remain elevated.
- Certificate of deposit (CD) rates have increased due to tight liquidity and rising bulk deposit rates.
- Lending rates (linked to the marginal cost of funds-based lending rate – MCLR) have not fully adjusted to the February rate cut.
Expert Views on Rate Cut Trajectory
| Economist (Institution) | Rate Cut Forecast | Outlook |
|---|---|---|
| Gaura Sen Gupta (IDFC Bank) | 25 bp in April, 25 bp in June | RBI to proceed cautiously, keeping external factors in view. |
| Madan Sabnavis (Bank of Baroda) | 25 bp in April, pause in June | RBI may reassess based on liquidity and monsoon impact. |
| Rahul Bajoria (Bank of America) | 100 bp total rate cut | RBI may adopt a more aggressive easing stance. |
| Tanvee Gupta Jain (UBS Securities) | 50 bp total rate cut, starting April | Policy support will strengthen domestic growth amid global uncertainties. |
Key Factors Influencing RBI’s Decision
- US Federal Reserve’s rate decisions: RBI will watch for any Fed rate cuts before making deeper moves.
- Domestic growth dynamics: India’s Q3 FY25 GDP growth stood at 6.2%, up from 5.6% in Q2 FY25, supported by:
- Stronger consumer demand
- Higher export growth
- Increased government expenditure
- Uncertainties in global trade policies, including potential reciprocal tariffs on India.
The Road Ahead
- The RBI is expected to remain cautious with its rate-cut strategy, balancing inflation control, liquidity concerns, and external risks.
- While some easing is expected, the depth of rate cuts will depend on how liquidity conditions evolve and how quickly policy rate transmission improves.
Despite lower inflation, the RBI is unlikely to pursue aggressive rate cuts due to liquidity deficits and global economic uncertainties. Most economists predict a gradual easing cycle, with an initial 25 bp cut in April and possible further reductions in June or beyond.
