RBI Monetary Policy: 150 bps of easing in under 180 days

At the start of the year, the Reserve Bank of India (RBI) had quite a few issues to deal with – a weakening economy, lack of government spending, liquidity deficit and US exceptionalism. Over the course of last few months, the central bank has addressed all these by frontloading rate cuts and infusing liquidity into the banking system through various tools to support growth. With all these measures so far, the effective easing stands at 150 bps in under six months – 100 bps of rate cuts and 50 bps of liquidity easing.

RBI's actions

The Monetary Policy Committee (MPC) of the RBI announced a significant policy shift today, unveiling a repo rate cut, cash reserve ratio (CRR) cut, and a change in stance. The central bank reduced the repo rate by 50 basis points to 5.5%, marking its third consecutive rate cut. This brings the total rate cut so far to 100 basis points. This decision comes in the context of abundant banking system liquidity, easing inflationary pressures and to some extent better-than-expected growth in Q4FY25. The central bank acknowledged ongoing global uncertainties regarding tariffs and a slowdown in global growth. However, it also highlighted the weakening of crude oil prices, a decline in the dollar index, and higher equity markets globally. Notably, the RBI also switched its stance from "accommodative" to "neutral," reflecting confidence in India's growth trajectory. However, this shift of stance has dampened market sentiment somewhat.

In our April policy note, we had highlighted that the central bank would likely maintain a pause after the June rate cut as the RBI has limited room for further easing. Markets have already factored in the global slowdown, and the tariff situation does not seem as severe as initially anticipated.

On the liquidity front, the RBI delivered another surprise with a 100 bps CRR cut, to be implemented in four equal tranches starting in September. This move will inject Rs 2.5 trillion of liquidity into the banking system by the end of November 2025, providing banks with ample room to lower the cost of funds.

In our Acumen – "Can surplus banking liquidity lead to a steeper yield curve", we had mentioned that we have observed a shift in the RBI's liquidity stance since January 2025 from neutral/deficit to more than 1% of NDTL positive liquidity resulting in substantial liquidity injection over past few months. This 1% of NDTL equates to roughly INR 2.25 trillion of Durable/ Banking liquidity. The RBI has injected more than INR 9.5 trillion of liquidity into system since December 2024 resulting in banking liquidity to swing from deficits of INR 3 trillion to a surplus of INR 1.25 trillion as of March 31, 2025. Liquidity has since remained in surplus.

On 23 May, the central bank announced a record Rs 2.69 trillion dividend to the central government for FY25, an increase of 27% from the Rs 2.1 trillion payout in FY24. In this year's Budget, the government had projected a dividend income of 2.56 trillion from the RBI and PSUs. With the CRR cut and the dividend, the RBI's strategy is to maintain liquidity at 1% of NDTL to ensure effective transmission, which will bring down yields at the shorter end of the curve thereby steepening the yield curve.

Following today's rate cut, the next trigger is likely to be deposit rate cuts from the banks. It is worth noting that after the rate cut in February and April, banks had lowered deposit rates by a small margin. Since the last two rate cuts, most banks have adjusted their repo-linked external benchmark-based lending rates (EBLRs) and marginal cost of funds-based lending rates (MCLR), making loans cheaper for borrowers.

From an equity market perspective, abundant liquidity, rate cuts and increasing comfort on retail asset quality are precursors to pick up in consumer loan growth. This coupled with tax cuts will likely spur consumption. Accordingly, we are overweight financials particularly NBFCs, real estate and consumer discretionary.

Liquidity in surplus since end of March 2025

Repo rate and CRR lowered

Policy Decision

• Repo rate lowered by 50 bps to 5.5%


• SDF rate now at 5.25% and MSF rate & bank rate at 5.75%


• CRR lowered to 3% in four equal tranches of 25 bps beginning September 6


• All members expect one voted for an interest rate cut of 50 bps, while one member voted for 25 bps of cut


• All members decided unanimously "to change stance from accommodative to neutral" focusing on durable alignment on inflation with the target while supporting growth"

Growth estimates retained while inflation projections lowered further

The MPC observed that, given the global slowdown in growth and uncertainty regarding tariffs, it is crucial to continue stimulating domestic private consumption and investment by frontloading rate cuts to support growth. The central bank maintained its forecast for FY26 at 6.5% and highlighted that recent GDP data showed strong growth in Q4FY25.

The MPC also noted that inflation has significantly softened over the last six months, thanks to the moderation in food and vegetable prices. While food inflation remains low, core inflation is expected to stay benign due to the easing of international commodity prices, which aligns with the anticipated global growth slowdown. Inflation has moved from above the tolerance band in October 2024 to well below the target, showing signs of broad-based moderation. Consequently, the central bank expects inflation to undershoot the target marginally and has lowered the target for FY26 to 3.7%.

Source: RBI Governor's Statement dated 6^th June 2025

Market Reaction

The repo rate cut was larger than expected but the change in stance to neutral and the CRR cut was a surprise for the markets. In particular, the stance change has dampened sentiment in the market as rates will remain on a pause for the next couple of months. The central bank has been proactively managing liquidity and had already announced measures so there were no expectations on this front from the policy. Post the announcement, the yields on shorter end of the curve fell while those on the longer end rose.

Our View

The larger-than-expected repo rate cut, shift to "neutral stance" from "accommodative" and unexpected CRR cut surprised markets. The central bank has been proactively managing liquidity and had already announced measures so there were no expectations on this front from the policy.

The RBI has front-loaded rate cuts, and we do not anticipate further cuts in the next 3-6 months. Returning to a neutral stance was unexpected and possibly premature in our view. We agree with the RBI's disinflation and stable growth projections, noting its prioritizing growth. This combination of liquidity and rate cut will benefit the bond market. Despite tariff uncertainties easing and global growth slowing, we foresee increased liquidity in the coming months due to the RBI's actions. The dividend announced by the central bank has already boosted core / durable liquidity. The huge surplus liquidity in the banking system augurs well for short end of the curve, which in our view will get steeper over the next 6 months. Directionally we see yields for the 10-year bonds to trade in a range of 6%-6.40%.

Global economic outlook

While uncertainty persists on tariffs, markets have responded positively to the de-escalation narrative so far. The focus now shifts to the economic impact of these tariffs. Countries may face a slowdown to varying degrees and most companies impacted by tariffs could likely pass on the increasing costs to consumers. In its last meeting, the US Federal Reserve (Fed) held rates on hold noting the risks on higher inflation and higher unemployment. We do believe that the Fed will lower interest rates twice this year in the current interest rate cycle. This is our base case scenario.

Risks to our view

We see currency and growth to be the near term issues. India could be impacted by lower flows, weak growth and by a China rebound.

Allocation and strategy is based on the current market conditions and is subject to changes depending on the fund manager's view of the markets. Data as on 31 May 2025.

#Duration as of 30 April 2025

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DISCLAIMER

Source of Data: RBI Governor' Statement, RBI Monetary Policy Statement & RBI post policy press conference dated 6^th June 2025, Axis MF Research

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