The Federal Reserve cut its benchmark interest rate on Wednesday from its 23-year high. The USA Central Bank announced that it would reduce its interest rate by 50 basis points, the first rate cut in more than four years.
Economists believe that the Fed rate cut is likely to influence global liquidity leading to a higher inflow of funds to the Indian market.
The Federal Reserve cut its benchmark interest rate on Wednesday from its 23-year high. The USA Central Bank announced that it would reduce its interest rate by 50 basis points, the first rate cut in more than four years.
While the US central bank has announced the rate cut, the Reserve Bank of India (RBI) has highlighted that there is no chance of having a rate cut in India in 2024. With the inflation rate hovering around 5 per cent, it is premature to have any discussion on rate cuts, Governor Shaktikanta Das had said previously.
However, with US cutting rates, there seems to be a difference of opinion among the Ministry of Finance and economists, in terms of the impact of the same on the Indian economy.
Officials from the Ministry of Finance believed that the Indian economy is unlikely to face any significant impact due to the rate cuts by the USA. Economic Affairs Secretary, Ajay Seth confirmed on Thursday that the US Federal Reserve decision won’t influence the investment inflows to India.
While the Finance Ministry is not expecting any change in the investment inflow to India post the rate cuts in the USA, the economists are hopeful that the decision is likely to influence global liquidity leading to a higher inflow of funds to the Indian market, as Indian is still offering a higher interest rate. Thus, the Indian economy is likely to get a boost.
Economists expect capital inflows like Foreign Portfolio Investment (FPI) inflows, Foreign Direct Investments (FDI) and External Commercial Borrowings (ECB) to pick up, as the Fed rate cut cycle progresses.
“This move, which marked an evolving policy from ‘inflation is transitory’ to ‘higher rates for longer’, could facilitate flows to emerging market assets such as India with a weaker dollar and lower rates. Aspects like valuation, and earnings, however, also must be factored into the decision-making matrix and therefore, stock-specific strategies rather than a broad-brush approach would be advisable,” said Dr Manoranjan Sharma, Chief Economist at Infomerics Ratings.
According to economists, higher foreign capital inflows into the Indian debt market would lower domestic bond yields presently below 6.8 per cent. Lower domestic bond yields would benefit both government borrowing and the corporate bond market. Also, with the US cutting rates, it is likely to have a boost in liquidity globally, so the chances of funds flowing to the emerging market can’t be ignored.
“The Federal Reserve's 50 basis points cut in interest rate is a positive factor for Indian equities as it increases global liquidity thus allowing more funds from abroad to flow into investor destinations like India. This increases confidence among investors and aids in the momentum of the stock market,” said Dr Ravi Singh, SVP- Retail Research Religare Broking.
The Indian central bank has always stressed on the fact that for the monetary policy in India, domestic factors remain the key. The timing of the start of the rate cut cycle will depend on how food inflation pressures evolve.
“We continue to expect a shallow rate cut cycle of 50bps by March 2025, as growth conditions hold up. Food inflation pressures had eased in August 2024, as supplies improved. However, the trend in September remains mixed with NHB indicating a rise in vegetable prices,” said Gaura Sen Gupta, Chief Economist, IDFC First Bank.
Economists believe that relatively stronger domestic growth conditions provide RBI policy space to wait for further clarity on food inflation risks. However, the recent move by the Fed is likely to exert pressure on the RBI to think about a similar rate cut, especially while the domestic economy is still recovering.
Near-term inflation is expected to rise to 5.0 per cent in Q3FY25 from 4.1 per cent in Q2, as support from base-effect wanes. Against this backdrop, RBI is expected to maintain the status quo in the October policy and cut policy rates in December 2024.