What’s the Point?
The European Central Bank cut its rates for the first time after raising rates in 2022 to counter the inflation arising from the pandemic. Some other central banks such as those of Canada, Sweden, and Switzerland also recently cut their interest rates, apart from emerging economies like China, which has also seen monetary policy easing in calendar year 2024 so far. While the US Fed hasn’t cut rates so far, current market expectations are for two rate cuts of 25bps by January 2025. This follows a global moderation in inflation, while growth is largely resilient. Meanwhile, the Indian Monetary Policy Committee (MPC) held rates steady last week. Going forward, rate cuts from central banks worldwide along with easing core inflation in India could result in rate cuts in India in the second half of the year.
Global monetary policy – recent events
- European Central Bank (ECB) cuts rates by 25bps
Described as a hawkish cut, the ECB highlighted that it cut rates as it now felt appropriate to moderate the degree of monetary policy restriction with inflation having fallen by more than 2.5% since September 2023, and the inflation outlook having improved markedly. While inflation continues to stay above the target rate of 2% (at 2.6% for May’24), the ECB has forecasted inflation of 2.5% for 2024, 2.2% for 2025 and reaches its target of 2% only in 2026, at 1.9%. While further rate cuts will continue to be data dependent, market expectations indicate 2 further cuts in the year.
- US FED Expectations continue to be moved forward
Expectations from the US Fed on rate cuts have seen delays, with expectations for rate cuts now split between September and November, versus a much higher number of rate cuts expected at the start of the year. Recent datapoints around strong jobs and higher than expected inflation have led to lower hopes of cuts amongst market participants. The June 11-12 meeting outcome would further inform markets of US Fed intentions.
- Global central banks are moving towards monetary policy easing
As seen in the chart above, global central banks such as Canada, Switzerland, and Sweden have veered towards rate cuts. China has been easing monetary policy by relaxing reserve rates, but hasn’t cut rates in the year. Japan and Indonesia have been outliers, having raised rates during the year. While all central banks monitor monetary and inflationary conditions in their respective regions, they have tended to move together at times. Currently, even as most central banks are at a pause, some have begun cutting rates.
India monetary policy
- June meeting outcome – rates unchanged, but voting tilts further towards cuts
The MPC voted to keep the policy rate and stance unchanged, with a majority vote of 4 to 2, compared to 5 to 1 in the April 2024 meeting. Thus, repo rate was maintained at 6.5% and stance remained focussed on “withdrawal of accommodation to ensure that inflation progressively aligns to the target, while supporting growth”. RBI Governor reiterated the MPC’s commitment to achieving a 4% inflation target and emphasized that the RBI’s policy decisions are driven by domestic developments, not by a “follow the Fed” approach.
- Inflation expectations for FY25 at 4.5%
As per RBI’s projections, inflation for FY25 will on average be 4.5%, above the median target of 4%. RBI emphasised that while headline inflation could fall below 4% in Q2FY25 primarily due to favourable base effect and CPI is expected to climb back above 4% from Q3FY25 onwards. It also noted that core inflation remains susceptible to rise in input prices.
Read our detailed take on India’s Monetary Policy outcome here.
Conclusion
While falling inflation has led to some of the world’s central banks having cut rates, inflation continues to be above target for most central banks, and further cooling would be key to a sustained monetary policy easing cycle. As per market implied policy rates tracked by Bloomberg, most central banks are expected to cut policy rates in the coming year.
For India, factors seem to be favourably placed for reduction in inflation and easing in policy rates. India’s fixed income remains favourably placed over the medium term, considering factors such as the RBI dividend aiding fiscal consolidation, Inclusion of India in JP Morgan global bond indices, Core CPI momentum being subdued. Risks remain such as food price shocks, and sustained growth momentum resulting in core inflation reaccelerating. As highlighted in the past, for investors with a relatively longer investment horizon, it still remains a good time to increase allocation to longer duration funds in line with individual risk appetite.