Explained: What the US Federal Reserve’s 50 basis point interest rate cut means for the Indian economy

The US Federal Reserve unexpectedly cut its benchmark interest rate by 50 basis points (bps) on Wednesday, catching many by surprise.

The Fed’s decision signals a shift towards easing monetary policy, and experts are divided on its impact on the global economy, including India.

Here’s a detailed analysis of the impact a bigger-than-expected interest rate cut could have on the Indian economy and the broader market.

Impact on the stock market and broader economy

The 50 basis point rate cut was unexpected for most market participants who had expected a smaller cut of 25 basis points.

According to Apurva Sheth, Head of Market Outlook at SAMCO Securities, the move triggered mixed reactions in the market. The initial volatility calmed down to moderate gains by the end of the session.

Sheth added that the Fed’s primary focus was to support the labor market, which has shown signs of stress. He suggested that investors focus on defensive sectors such as FMCG and pharmaceuticals, and also consider the potential of precious metals such as gold and silver until there is more clarity on the market direction.

Meanwhile, Dr VK Vijayakumar, Chief Investment Strategist at Geojit Financial Services, described the Fed’s move as one that could send equity markets into a consolidation phase.

He stressed that optimistic statements by Federal Reserve Chairman Jerome Powell about achieving the 2% inflation target were well received, especially given the solid economic growth in the US and the good situation on the labour market.

For India, this may mean the need to introduce more flexible policies in the near future.

Vijayakumar expects the aggressive cuts by the US Federal Reserve to pave the way for the Reserve Bank of India to cut interest rates. With consumer price inflation (CPI) in India already falling below the RBI’s 4% target, two potential rate cuts of 25 basis points each by March 2025 seem likely. He noted that the banking sector, especially interest-sensitive industries, could see a boost as interest rates fall, which would benefit sectors like infrastructure.

Vijay Bharadia, founder of Wallfort Financial Services Ltd, also agreed that the interest rate cut was a bold step that could encourage other global central banks, including the Reserve Bank of India (RBI), to adopt looser monetary policy.

He stressed that the rate cuts will benefit leveraged sectors like metals and infrastructure. However, the rate cut could put pressure on India’s banking sector, especially with the declining CASA (Current Account Savings Account) base.

As interest rates fall, bank deposits may become less attractive to customers, which could impact banks’ profitability in the medium term.

Deepak Ramaraju, Senior Fund Manager at Shriram AMC, shared similar concerns. He felt that while the 50 basis point cut in Fed interest rates could provide relief to equity markets, the domestic banking sector could face challenges due to outflow of foreign institutional investments (FIIs) in the short term.

However, a weakening US dollar could attract capital back to India, stabilising markets by the end of the year.

Impact on bonds and rupee

Suman Chowdhury, chief economist at Acuité Ratings & Research, highlighted the potential impact on the Indian bond market. A cut in the US interest rate could increase foreign capital inflows into the Indian debt market, leading to lower yields on domestic bonds, Chowdhury said.

He noted that the yield on the 10-year Indian government bond, which has already fallen below 6.8%, could fall further, which would be beneficial for both government borrowing and the corporate bond market. He also added that lower borrowing costs could encourage Indian banks and infrastructure companies to issue longer-term bonds, which would increase the scope for fund mobilisation.

Chowdhury also noted the possible impact on the rupee. Foreign capital inflows could support the Indian currency in the short term, although RBI interventions could prevent the rupee from rising too quickly. He nonetheless predicts a gradual depreciation of the rupee to 84.5 by the end of the fiscal year.

Will RBI follow suit?

As inflation has fallen in India, a bigger-than-expected interest rate cut by the Federal Reserve (Fed) has raised expectations for a response from the RBI.

Chowdhury noted that while the RBI is likely to take its own independent decisions, the chances of a 25 basis point rate cut in December or in the last quarter of fiscal 2025 have increased significantly, especially if food inflation remains under control.

Unmesh Kulkarni, managing director of Julius Baer India, added that the Fed’s decision reflects a shift in global monetary policy and that further rate cuts are expected next year.

He stressed that historically, U.S. stock markets have performed well during periods of falling interest rates, especially if a recession is avoided.

Is India well positioned to benefit from interest rate cuts?

This “risk-on” environment has the potential to boost equities, including Indian stocks, although volatility could remain elevated due to lingering concerns about the risk of a global recession and political uncertainty in the US.

In short, the Fed’s 50 basis point rate cut will likely have far-reaching implications beyond the US economy, potentially triggering rate cuts by other central banks, including the RBI.

While certain sectors in India, such as infrastructure and metals, may benefit from these policy changes, the banking sector may face short-term challenges due to lower deposit interest rates.

However, with falling inflation and bond yields, India may be well-positioned to navigate this new global monetary environment, provided domestic inflation remains under control and foreign capital inflows remain stable.

Swapnil Aggarwal, director, VSRK Capital, said, “The full impact on the Indian economy will depend on how the US economy performs and how global investors adjust their portfolios. The Reserve Bank of India may consider a pre-emptive rate cut of 25 to 50 basis points before 2025.”