What Are the Implications of India’s Rate Cut?

Reserve Bank of India's Policy Rate Cut Came as Pleasant Surprise

(Continued from Prior Part)

The Reserve Bank of India cut rates

The Reserve Bank of India (RBI) cut policy rates by 50 basis points on September 29 in a move that took Wall Street by surprise. Banks and realty stocks rejoiced after this announcement. In this article, we will look at how this greater-than-expected rate cut would impact consumers and the economy.

Lower policy rates mean lower rates on personal loans

Downward revisions of policy rates directly impact demand for housing loans, auto loans, and all other kinds of personal loans. This is because banks cut lending rates when policy rates are slashed. As the cost of borrowing goes down, demand for loans goes up, thereby impacting the sentiments surrounding the real estate market and auto market. This has a cascading effect on the overall economy.

Effect on deposits

When central banks announce a rate cut, commercial banks cut deposit rates. Banks do not want to take the risk of raising high-cost funds at a time when the borrowing rates are falling. This means lower interest income in monthly flows.

Improved market sentiment

The current rate cuts will benefit capital-intensive sectors. The stocks in these sectors (real estate, automobile, consumer goods) have been beaten down for many weeks due to higher costs and lower demand. However, they are expected to rally once demand picks up after the rate cut.

This move is also expected to revive the bond market. After the four rate cuts witnessed during the year, bond yields have been falling, which leads to a rise in the value of bonds. With expectations of further rate cuts, bond yields are expected to trend lower, which will make them more attractive to foreign investors. This move is expected to boost the overall market sentiment and get economic growth back on track.

ETF exposure

Investors looking to take advantage of this move could invest in the iShares MSCI India ETF (EPI) or the iShares Emerging Market ETF (EEM). Shares of banks like the State Bank of India (SBIN), HDFC Bank (HDB), ICICI Bank (IBN), and Axis Bank (AXS) are well represented in these ETFs.

Continue to Next Part

Browse this series on Market Realist:

• Part 1 - Reserve Bank of India Cuts Rates More than Expected

• Part 2 - How the Market Reacted to India’s Rate Cut

• Part 4 - How Leading Banks Reacted to India’s Rate Cut