RBI Can Undertake Unprecedented Interest Rate Easing – If It Wants To

There are at least five ways to define India’s real interest rate. The Reserve Bank has used all of them. Sometimes the same governor uses more than one, sometimes a new governor invents their own. It’s a moving target, so it's convenient. 

In 2025, that convenience could become a policy strategy.

The Monetary Policy Committee has already cut the repo rate by 50 basis points this year to 6.00%. The first of these, in February, was largely set in motion by the previous regime. Governor Shaktikanta Das had steered the policy stance to neutral in October and slashed the Cash Reserve Ratio to 4% in December, clearing the path for easing. The second cut came earlier this month amid a backdrop of falling inflation, sharply downgraded growth forecasts for 2025–26, a deluge of durable liquidity in the banking system, and a world economy reeling from Donald Trump’s tariff tantrums.

The consensus view is that the RBI will cut the repo rate by another 50 basis points by mid-2025–26 and then pause. However, this view assumes a narrow interpretation of the central bank’s toolkit and a more principled commitment to policy consistency than history suggests.

Consider the real interest rate. In February, Governor Sanjay Malhotra presented a hybrid calculation using CPI and WPI inflation, then at 5.2% and 2.6%, respectively, and subtracted that from the repo rate of 6.25% to arrive at a “real rate” of around 1.5%. This was, by one count, the fifth or sixth distinct formula the RBI has used over the last decade. Earlier versions included the repo rate minus current CPI, or the Treasury bill rate minus one-year-ahead CPI forecast, or simply repo minus the medium-term inflation target of 4%.

If the MPC now wants to cut more deeply, it can reach for whichever definition makes the real rate look too high. This may sound cynical, but the institutional record supports it. Malhotra's refusal to make the 1.5% comment just two months after publicly stating it only underlines how elastic these definitions can be.

The second variable ripe for reinterpretation is potential growth, a number that can’t be measured directly but is central to monetary decision-making. In December 2024, Chief Economic Adviser V. Anantha Nageswaran said India’s potential growth rate lay between 6.5% and 7.0%. Independent economists would be far more comfortable with a number closer to 6%.

What matters is that if the RBI sticks with the higher estimate, then any growth print below that level creates a negative output gap. And when output gaps are negative, rate cuts are not only desirable, they’re not inflationary. India’s GDP growth in 2024–25 will likely fall short of the statistics ministry’s 6.5% estimate. Forecasts for 2025–26 have already been slashed to 6% or lower, while the RBI’s remains at 6.5%.

This gives the central bank all the justification it needs to go beyond the expected 5.50% and closer towards the psychological floor of 4.00%, a level few believe is even on the table.

Policymakers like to be seen as rule-bound and data-dependent. But they also rely on numbers that are, by definition, not directly observable. When the goalposts are made of fog, you can move them as needed. The only question is whether one wants to.

If growth slows further and inflation stays benign, the answer might be yes. And with the right blend of selectively interpreted indicators, the RBI can cut much deeper than consensus dares to imagine, without ever appearing reckless.