With the rate cuts in place, more capital would be in the hands of the investors, which would increase the infusion of investment in the start-up sectors, add experts
The US Federal Reserve led by Jerome Powell on September 18, cut interest rates by 50 basis points after more than four years. This move signals the start of a policy shift aimed at easing the restrictive measures previously implemented to combat inflation.
The Fed’s move is aimed at stimulating the economy of the US as it makes borrowing more affordable and convenient. The Federal Open Market Committee stated that in the light of progress on inflation and balance of risks, it has decided to lower the federal fund rates by ½ per cent to 4.75 to 5 per cent.
The impact of the Federal Reserve's actions will be felt globally. India's burgeoning start-up ecosystem will not be exempt from this influence. Before delving into what it means for India, let's understand how it will impact the start-up ecosystem as a whole.
Experts believe that the US Fed’s interest cut will have a stimulating effect on the world economy and start-up ecosystems across the world. With the rate cuts in place, more capital would be in the hands of the investors increasing the infusion of investment in the start-up sectors.
Venkatesh B. Athreya, former professor of economics at Bharathidasan University, Tamil Nadu, said that the US Fed rate cuts will “give boost to the world's economy.”
Athreya said, “If the start-up sector is raising funds in the US, they would have a lower interest to pay. US capital markets might provide benefits due to lower funding costs, allowing companies to borrow more affordably.”
The influx of capital from the US could help stimulate overall aggregate demand across the world. There will be competitive rate reductions worldwide, and one needs to observe how this unfolds as far as the funding for the start-up is concerned.
Despite 2023 experiencing a funding winter, the start-up ecosystem has experienced a new lease of life. As per a report by Bain and Company, venture capital funding globally increased by 5 per cent in the second quarter of 2024, amounting to $94 billion across 4,500 agreements.
The sectors that saw an increase in funding were Artificial Intelligence (AI), healthcare, and financial services. In addition to that, seed- and early-stage investments also grew significantly quarter over quarter, with average deal sizes rising by 35 per cent and 14 per cent, respectively. Now with the US Fed cut, experts believe that there will be a boost in funding.
Ervin Tu, Prosus Group President & Chief Investment Officer said, “While US VC funding is improving – we saw a 9 per cent YoY rise in deal volumes in H1 2024 versus a 30 per cent YoY reduction in 2023 – the impact of lower interest rates can further stimulate deal flow.
"With cheaper access to capital, start-ups will be encouraged to invest in themselves for long-term growth and capital providers will be more prepared to take risks", he further added
US Fed Cut: Catalyst for Start-Up Growth in India?
The start-up ecosystem in India has made a comeback after a significant downfall in funding in 2023.
The year 2023 saw a significant reduction in funding to $7 billion from $25 billion received in 2022, as per the data platform Tracxn.
The year 2024 has now become a ray of hope for investors. In the last nine months of 2024, Indian start-ups already received $9.6 billion and if the trend continues to persist, then it will surpass the funding received from 2023, as per Entrackr.
The US Fed cut might act as a catalyst for the start-up ecosystem. As per experts, historically lower interest rates have prompted investments in riskier assets like venture capital and the equity markets, which are essential for start-ups looking for growth funding.
“With the Fed's cut, foreign investors might redirect their capital towards emerging markets like India, seeking higher returns compared to US Treasury securities. This could lead to an influx of FDI into Indian start-ups, enhancing their growth prospects,” said Somdutta Singh, founder and CEO Assiduus, Angel Investor.
Further, some industries, especially the ones dealing with technology and consumer products, could grow more quickly because of decreased financing costs of businesses.
“Start-ups in these sectors could experience heightened demand as businesses increase spending on technology and infrastructure,” adds Singh.
With the Fed's decision set to have an overall market sentiment towards riskier assets, it could also see an increase in valuation for start-ups. This could facilitate easier exits for investors through IPOs or acquisitions, add experts.
Rate Cut by RBI?
Athreya said that since the US Fed has cut interest rates, there is a possibility that the Reserve Bank of India (RBI) will follow suit, which would be of immense benefit to the domestic economy.
While there is no certainty about the same, all eyes are now on the next move that the central bank will take.
The next monetary policy meeting of the central bank is set to take place on October 7 and 8. For a while, the RBI has kept the policy rate steady. In the last RBI MPC meeting, the central bank kept the repo rate unchanged at 6.5 per cent. This decision was taken for the ninth time in a row.
Speaking about the decision to cut rates, in an interview with CNBC International, RBI governor Shaktikanta Das said that the central bank will keep a close eye on the inflation trends to decide on interest rates.
With the possibility of many start-ups looking to the US for their source of funding, RBI reducing its interest rates would benefit domestic start-ups. However, contrary to this, some experts believe that the central bank might not make rate cuts anytime soon.