Friends, there have been some positive signs in the Indian economy in recent months. In particular, the decline in inflation has raised expectations of a possible interest rate cut in February. Let us discuss this in detail.
Decrease in inflation: A sigh of relief
Softening of food prices
Retail inflation declined to 5.48% in November 2024 from 6.21% in October. This decline is mainly due to reduction in prices of vegetables, pulses, sugar, fruits, eggs, milk, spices, transport, communication and personal care products.
Inflation rate in rural and urban areas
According to NSO data, the inflation rate in rural areas in November was 5.95% and in urban areas it was 4.83%. This shows that the impact of reduction in inflation is being felt across sectors.
Role of Reserve Bank of India
Monetary Policy Committee (MPC) Meetings
The Monetary Policy Committee of RBI had recently kept the repo rate steady at 6.5%, due to high inflation. However, now that inflation has come down, the chances of a reduction in interest rates in the February 2025 meeting have increased.
Future Prospects
Experts believe that if the core inflation comes down to 5% or less by December 2024, then the chances of a reduction in interest rates in the February 2025 monetary review meeting will be very high.
Signs of improvement in the economy
Festive season and rural demand
High frequency indicators (HFIs) in the third quarter show that the Indian economy is recovering from the slowdown seen in the second quarter, driven by strong festive activity and a surge in rural demand.
Employment growth
Employment in the organised manufacturing sector has been increasing for nine consecutive months, while the rate of job creation in the services sector has grown at the fastest pace since the survey began in 2005.
Components of inflation
Impact of food inflation
Food inflation pressures are likely to persist in the third quarter of this fiscal year and will start easing only from the fourth quarter of 2024-25, driven by seasonal improvement in vegetable prices, arrivals of the Kharif crop, likely good Rabi output and adequate supply.
Core inflation eases
Core inflation, which is measured by excluding food and energy prices, eased slightly to 3.7% in November, down from 3.8% in the previous month.
Interest rate cut prospects
Expert opinion
According to Radhika Rao, executive director and senior economist at DBS Bank, “We are expecting a rate cut of 25 basis points in the February meeting and a total of 75 basis points reduction is expected in this cycle.”
SBI report
“We are expecting the RBI to cut rates in February 2025 and a total of 75 basis points reduction is expected in this rate cut cycle,” said the SBI Research report.
Impact of global economic conditions
Impact of US dollar
Experts believe that changes in the dollar may affect rate decisions, as happened in 2018 when the RBI did not raise rates despite heavy pressure on the rupee.
Global economic complexities
Global economic conditions complicate the accurate assessment of R-star (natural interest rate), which may increase challenges in monetary policymaking in future.
Changes in consumer behavior
Limitations of traditional economic models
Changes in consumer behavior are exposing the limitations of traditional economic models, necessitating new methods in policymaking.
Use of new technologies
Central banks and policymakers should use cutting-edge computational tools such as machine learning and big data analytics to better understand changes in consumer behavior and formulate appropriate policies.
Conclusion
Amid declining inflation and signs of improvement in the economy, the chances of the Reserve Bank of India cutting interest rates in February 2025 have increased. However, global economic conditions and consumer behavior