The decisions of the Monetary Policy Committee’s (MPC) latest review were more eagerly awaited than usual. It was expected that the sharp slowdown in the economy would elicit a response; but above all, all eyes were on how Sanjay Malhotra, the new Governor at the Reserve Bank of India (RBI), would approach the issues at hand. The MPC meeting delivered to market expectations with a 25-basis point policy rate cut.

A 25-basis point rate cut will not move the needle materially on lending rates for corporates or retail borrowers. Transmission of policy rate changes to lending rates takes a minimum of two quarters anyway. Therefore, it needs to be seen how far the MPC is willing to go in this easing cycle. The Governor’s statement indicates other subtle shifts in monetary policy. One, the statement this time talks explicitly of the growth-inflation trade-off and does not mention a Consumer Price Index (CPI) inflation target of 4 per cent. This is pragmatic because managing monetary policy such that inflation stays within a band of 2 to 6 per cent is an easier task than adhering to a 4 per cent target. Targeting an inflation band instead of a single number gives the MPC room to balance growth and inflation considerations while setting rates. Two, the Governor stated that monetary policy should be forward-looking, rather than reacting to past data. This is pertinent because the MPC has sometimes fallen behind the curve on rate actions in this cycle. Three, the statement on striving to balance the trade-off between financial stability and efficiency in regulations may have lenders heaving a sigh of relief. In line with this promise, the RBI has put off the introduction of the Liquidity Cover Ratio framework for banks from April 2025 to “at least April 2026.”

While striking a dovish note on rates, the MPC did not yield any ground on liquidity with cash reserve ratio cuts or an accommodative policy stance. While the Governor urged banks to participate more actively in the uncollateralised call money market, perhaps as a solution to the liquidity deficit, this long-standing demand of RBI has gone unheeded. However, RBI has already been addressing the liquidity deficit in recent weeks through stepped-up open market operations and swaps, while intervening less in the forex market through dollar sales. Market participants should therefore look to RBI actions, rather than the MPC statement, for signals on liquidity.

All said, the MPC has taken a somewhat intrepid call in lowering policy rates at a time when global markets are feeling the heat from ad hoc Trump announcements. Given that this situation will last for a while, the MPC was right in prioritising domestic growth. However, a likely consequence of India embarking on an easing cycle now could be higher volatility in foreign capital flows and a weaker rupee. As the Governor has said, the RBI may choose to let the rupee find its own level, while curbing excessive volatility. India Inc and other market participants need to brace for this risk.