RBI reduces rates and how it affects you
RBI Monetary Policy Committee, on Friday 7th February, 2025, reduced interest rates for the first time in 5 years. Read on to know how it affects you
I know that after setting the base of the challenges faced by Indian economy (click here to read), I am overdue in writing about the changes in the Union Budget. However, this week has been overwhelming on the updates front with the Economic Survey (600 pager document about the Indian economy), Union Budget and now the RBI Monetary Policy Committee meeting, all falling in one week.
We are already staring in the eye of the new Tax Act in the coming week or two based on announcement of the Finance Minister during budget speech. Honestly, this one was a smaller document and had a quicker impact on our lives so I let this one be your weekend read.
RBI Monetary Policy Committee (MPC) met between 5th to 7th February 2025 and unanimously decided to reduce the repo rate by 25 basis points (or 0.25%) from 6.50% to 6.25%. The RBI MPC has reduced the rates for the first time in 5 years and although it seemed like it was overdue, it was a welcome step for all stakeholders of the economy.
The repo rate is the interest rate at which a central bank lends money to commercial banks in exchange for government securities.
How does it affect you?
New and outstanding loans -
If you are negotiating with the bankers for new loan, make sure you get it at the latest rate.
If you have any loans outstanding with the banks (home loan, business loan, etc), the rate of interest will be reduced by 25 basis points.
The interest element of banks consist of a base rate (which is usually the repo rate) + a spread that is the actual income of the bank.
Since the repo rate is reduced by 25 basis points (or 0.25%), banks will have to transfer exact same the benefit.
For the reduction to take place, you need to ensure that you have a floating rate of interest (and not fixed).
Ask your banker when the revision will take effect. Usually, banks revise rates on a quarterly basis so the effect may not be immediate.
There will be no change in your EMI amounts, however, due to lower rates, the repayment of loans will happen sooner than earlier (ask your banker for a revised schedule based on revised rates).
Market linked debt securities (MLDs)-
Market linked debt securities usually have a market benchmark and have an active secondary market where the securities can be easily bought or sold.
There is an inverse relationship between interest yield (interest rate of the market - like repo rate) and the market value of such securities.
Now that the repo rate has decreased, you may expect some appreciation in your market value.
However, as opposed to loans, your MLDs need to be of fixed interest nature for the appreciation to take place.
If your MLDs are of floating rate, the market value will be adjusted as per the new rates and there will be no change in the value.
General outlook (these things usually take longer time to take effect)-
With repo rate reducing, there will be more flow of money in the market as loans are available slightly cheaper. This might induce businesses to take loans for their business growth and expansion - which eventually leads to more employment opportunities.
With the flow of money increasing, changes in personal taxation as per the budget and more employment opportunities (from above point and hopefully), we might see a rise in overall consumption in the economy.
Read on for RBI MPC commentary if you macro economics interest you -
- the geopolitical landscape remains uncertain. Strong dollar performance puts Rupee under pressure and maintaining balance of payments becomes a challenge.
- GDP is estimated to grow at 6.4% with stronger consumption. Industrial growth still remains weak.
- In the next year, with recovery in private CAPEX, stronger consumption and better agricultural output, the economy is expected to grow by 6.7% in Q1.
- With the moderation in food and vegetable prices, inflation has slightly reduced and assuming no supply side shocks, it will continue to decrease and the inflation is projected at 4.20% in FY 2025-26.
- If all factors - private investment, consumption, government CAPEX on infrastructure, favourable monsoons and crop production - align, RBI MPC will have more space to support growth in the next year (hinting at more rate cuts).
Wish you all a happy weekend!