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India’s central bank surprises with post-budget rate cut

Lowered its policy repo rate by 25 basis points to 7.5%

India’s central bank lowered its policy repo rate by 25 basis points to 7.5 percent on Wednesday, its second inter-meeting cut this year on the back of easing inflation and what it said was the”weak state” of parts of the economy.

“Given low capacity utilisation and still-weak indicators of production and credit off-take, it is appropriate for the Reserve Bank to be pre-emptive in its policy action to utilise available space for monetary accommodation,” Reserve Bank of India Governor Raghuram Rajan said in a statement.

The cut comes just days after the government and the Reserve Bank of India agreed to formally adopt inflation targeting, though the central bank introduced its own targets a year ago.

Analysts said the RBI’s rate cut appeared to give a seal of approval for the government 2015/16 budget, and its pledge to exercise fiscal responsibility, while taking an additional year to meet a fiscal deficit target of 3 percent of gross domestic product.

“Softer readings on inflation are expected to come in through the first half of 2015-16 before firming up to below 6 percent in the second half. The fiscal consolidation programme, while delayed, may compensate in quality, especially if state governments are cooperative,” Rajan said.

The statement noted that the rupee’s relative strength also added to disinflationary pressures, although Rajan said the RBI does not target exchange rates and does not have a target for currency reserves.

Indian inflation has moderated sharply as oil prices slumped since last year. In January, consumer prices INCPIY=ECI rose an annual 5.11 percent, well within the inflation target agreed by the government and RBI.

In a document dated Feb. 20 but published on the ministry website on Monday, both sides agreed to set a consumer inflation target of 4 percent, with a band of plus or minus 2 percentage points, from the financial year ending in March 2017.

The RBI had first lowered interest rates this year on Jan. 15, in a similarly unexpected move. Both rate cuts took place outside of the central bank’s scheduled policy review meetings.

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