The Reserve Bank of India (RBI) has brought down the key repo (repurchasing option) rate from 6.50% to 6.25% after holding the rate for two years. A repo rate is the interest rate at which commercial banks get short-term loans from the RBI. In the 53rd & first MPC (Monetary Policy Committee) meeting held on February 5th to 7th 2025, the six-member MPC of RBI decided to cut the policy repo rate by 25 bps (basis points) [1 basis point = 0.01%] to 6.25% with immediate effect. The reduction in the repo rate is the first rate cut by RBI in close to five years. It has been cut for the first time since May 2020. In May 2020, the policy repo rate was trimmed by 40bps from 4.40%. to 4%. Since then, the rate has increased to 6.50%. However, the recent cut in repo rate was much awaited.
Economists and experts had expected a cut in the repo rate. The monetary policy decision of the reduction in the repo rate is likely to have significant impact on individuals, businesses and the economy at large as it influences the interest rates. Floating interest rates on loans are tied to the repo rate. A cut in repo rate implies a chance of downward revision in the floating rate loans. As a result, the equated monthly installments (EMIs) on floating rate loans are likely to come down, which will be a much-needed relief to borrowers. As EMIs on loan decrease, the disposable income of the consumers increases and consumer spending rises. This boosts the demand for various goods and services. Hence, various industries like real estate, construction, automobiles, auto ancillaries, capital goods, consumer durables, hospitality and travel etc. are likely to get benefited. As a result, a faster sales momentum in Q4 of the financial year (FY) 2025 may be expected.
Banks can borrow money from the central bank at a cheaper cost and thus reduce the cost of funds. This means banks can offer loans at lower interest rates to businesses and individuals. Consequently, MSME (micro, small and medium enterprises) and startups may get easier access to cheap finance. This could be a good time for the potential loan seekers to apply for a home loan. The decrease in the loan rates may be proved as a much-needed demand support in this crucial moment. Expansion in the existing project and investment in new projects is expected as the cost of capital decreases. Businesses are likely to expand their operations at a lower cost. This plays a major role in the employment generation. With the rise in employment, the purchasing power of individuals goes up, which stimulates the demand for goods and services.
In summary, the repo rate reduction in combination with the pro-consumption approach such as tax relief in India’s FY26 budget is expected to boost spending, investment and capital-formation. These are likely to enhance the economic activities and employment generation which are the paths towards accelerating economic growth.
Author:
Dr. Suryakanta Nayak, Assistant Professor (Finance),
Paari School of Business,
SRM University AP, Amaravati 522240, Andhra Pradesh, India.
