The repo is the key policy rate at which the RBI lends to banks. The MPC revises this rate in order to send a signal to banks and also to lower their cost of funds. At its latest meeting on August 7, four of the six MPC members voted to reduce the policy rate by 35bps. In an unusual move, RBI's internal members were more aggressive in support of a higher cut rate, according to MPC minutes released by the central bank on Wednesday.
“Several high frequency indicators for May-June also suggest weakening of services sector activity. Two key indicators of rural demand – tractor and motorcycle sales – continued to contract. Among the indicators of urban demand, while passenger vehicle sales contracted in June, domestic air passenger traffic growth turned positive after three consecutive months of contraction. Two key indicators of construction activity – cement production and steel consumption – are also contracted / slowed down, ”said Das, while arguing that a 25bps cut would not be enough.
According to the governor, economic activity has shown signs of further weakening since the previous MPC meeting in June 2019. “Inflation expectations of households in July 2019 of the RBI's survey moderated further by 20bps for the 1-year ahead horizon, though they remained unchanged for the 3-month ahead horizon. Cumulatively, inflation expectations of households have declined significantly by 180bps for the 3-month horizon and 190bps for the 1-year horizon in the last five survey rounds, ”Das said.
While Das and his RBI colleagues B P Kanungo and Michael Patra voted for a 35bps cut, Chetan Ghate and Pami Dua wanted to reduce rates by only 25bps. Ghate did not want a 35bps cut as banks had not yet passed on earlier cuts.
“The weighted average lending rate on fresh rupee loans in the banking system has dropped by only 29bps despite the MPC cutting rates by 75bps in the February-June window. By a large cut (35bps), I feel we will be burning through the monetary policy space without much to show for it. While the real economy needs some support, we have to wait for more transmission to happen, ”said Ghate. According to Dua, if the rate was cut by 25bps, it would result in a 100bps cut since February on a cumulative basis, which she felt was sufficient at this point in time.