To give boost to the ailing economy and promote spending, the Reserve Bank of India (RBI) announced a surprise cut in repo rate, Wednesday, by 25 basis points to 7.50 percent.
RBI governor Raghuram Rajan said he expects the cut to encourage banks and lenders to reduce their lending rates in the second quarter of 2015.
"March is typically a time when banks try and hoard liquidity, but as we move into the new fiscal year we will see more transmission of lower interest rates," Rajan told the media.
This is the second time the RBI has cut repo rate this year. On January 15, after RBI announced a cut in the repo rate, only 3 of 45 commercial banks decided to cut the lending rates, reflecting an economy plagued by bad loans and high inflation. This prompted RBI to criticize the banks which had refused to lower the lending rates, calling their move 'lazy' banking.
This time could be different, however. Many banks expressed interest in lowering their lending rates, stating that the move could come as early the second quarter of 2015 as March marks the end of the current financial year.
"My hope is that over the span of the next few weeks, as we move in to the new fiscal, we will see more transmission into lower interest rate," Rajan told analysts in a conference call.
"Banks tend to be a little faster in raising rates rather than cutting rates. I have no doubt that the pressure of the two rate cuts over time will feed into lower rates," he said.
In February, Indian banks' credit growth remained at decades low - 10.4 percent year-on-year - signalling a sluggish economy and the government's struggles to help it recover.
RBI's latest move comes on the heels of Finance Minister Arun Jaitley presenting a growth-oriented Budget. If banks lower lending rates as expected, both consumer and business loans will become cheaper and could be the medicine needed to help India's economy recover.