The central bank was always going to cut the policy interest rate at the end of this week. What was not anticipated though, was the extent of the cut. The Monetary Policy Committee of the Reserve Bank of India – which decides on the rates – voted to cut the policy rate by 50 basis points – something only two or three economists had predicted.
They didn’t stop there. The RBI also decided to reduce the Cash Reserve Ratio for banks to 3% from 4% in four tranches beginning September this year. Sidebar – the cash reserve ratio or CRR is something like a contingency fund that banks have to keep. Now, starting September, banks will have to keep less in this reserve and will instead be able to use those funds to lend more. It’s expected to release as much as Rs 2.5 lakh crore into the system.
Okay, that’s about the decision. But why was this necessary, and what is likely to happen as a result? India’s economic growth has been decent, all things considered. This is especially when you consider the global backdrop. There’s trade tension and geopolitics adding to uncertainty. The U.S. economy is slowing, and no one knows how fast China’s economy will grow. Even at a slightly slower pace of growth than usual, India continues to be the fastest growing major economy. But, it could grow faster.
The central bank’s primary goal is to manage inflation, and while doing that support economic growth. After quite a while, inflation is not a big concern. With brent crude at around $65 to the barrel, and likely to stay benign, and with hopes of a normal monsoon, inflation is expected to stay under control. This has given the RBI the ability to support growth. Lower interest rates and an easy supply of money are expected to make it easier for banks to lend and more lucrative for you and also businesses to borrow.
To put it simplistically, if you borrow and consume more, businesses will want to produce more. They’ll then need to add more capacity and will find it relatively cheaper to borrow to set it up. That’ll create more jobs. All of this results in higher economic growth.
What Does It Mean For You?
Well, there are positives and negatives. On the one hand, you’ll find it cheaper to borrow. And if you’ve got a large loan, like a home loan, it’s set to get cheaper. When it comes to existing loans, the thumb rule to follow is – keep your EMI the same. That will reduce your tenure and significantly lighten your interest burden. There are calculators readily available that will tell you exactly how much.
With most of you now in the New Tax Regime, there is no longer any benefit to paying interest. Earlier, you could claim deductions of up to Rs 2 lakh per person per year under section 24 for interest payments on a home loan.
Now, for the bad news. Banks will cut deposit rates fairly quickly. Of course, if you’ve already invested in fixed deposits, you’ll continue to receive interest at the rate you started with, but re-investment risk is something you’ll have to contend with sooner or later. So far, the RBI has cut interest rates by 100 basis points or 1 percentage point. There are some estimates that suggest that another 50 basis points may be possible by the end of the year, while a lot of economists think that the central bank will hit pause for some time. Remember, monetary policy changes are only visible with a sizeable lag, so the pause could well be likely. We’ll know when the Monetary Policy Committee meets again in August.
A Few More Things To Consider
We started a campaign, ‘Spot The Fakes With NDTV Profit’ this week. This was necessitated because scamsters are now using deepfake videos to lure people. There were even fake videos of Finance Minister Nirmala Sitharaman talking about some ‘insanely accurate’ AI tool.
A lot of the advice you’ll hear sounds obvious, but deepfakes are getting more believable and it’s a good idea to go through a simple checklist. Don’t get swayed by outsized returns. Doubling your money in a few weeks is only something you can do if you win a lottery or hit the jackpot at a casino – something most people can’t do. Even the most well-known investors – like Warren Buffett – are satisfied with a 20% return over the long term. At that rate, you’ll double your money in three and a half years – not a bad deal. And finally, don’t fall for the urgency trap. A scamster will always make it sound like the window of opportunity is closing – don’t fall for it.
We’ve got a number of interesting chats lined up on Your Money Matters and Money Wise next week. For one, we’ll speak about how you should plan your investments now that interest rates are going down. Will an arbitrage fund be better for you than a fixed deposit post tax? I also plan to ask the experts about a checklist you can follow when you decide to buy a house – either second hand or from a developer.
Until next week!
Alex
. Read more on Personal Finance by NDTV Profit.