As India's economic data for the second quarter of the fiscal year unfolds, a compelling debate has emerged within financial circles: should the Reserve Bank of India (RBI) consider cutting interest rates? The question arises against a backdrop of surprisingly strong GDP numbers and a currency that has recently crossed a significant threshold.
Robust Economic Fundamentals Challenge Rate Cut Narrative
The latest GDP figures, released in early December 2025, have painted a picture of an economy in firm recovery mode. The second quarter growth came in at a much higher-than-expected 8.2%, reinforcing the structural resilience of the domestic economy. This performance has led experts, including Soumya Kanti Ghosh, Group Chief Economic Advisor at State Bank of India, to suggest that the full-year growth could reach approximately 7.6% or even higher.
This robust growth is underpinned by several key factors. The services sector, particularly financial, real estate, and professional services, posted impressive numbers. Simultaneously, industrial activity received a significant boost from manufacturing and construction segments. Capacity utilisation in manufacturing firms is hovering around a healthy 80%, indicating revived 'animal spirits' within the corporate sector.
Credit Growth and Liquidity: The System is Functioning Optimally
One of the strongest arguments against a premature rate cut lies in the state of credit and liquidity. Liquidity in the financial system is currently assessed as optimal and supportive of growth. A healthy pickup in credit offtake is evident across the board.
Credit growth is not just limited to traditional banks. The larger financial ecosystem, including Non-Banking Financial Companies (NBFCs) and the private credit market, is showing robust activity. This is further corroborated by strong deal volumes across India Inc., where a wave of mergers and acquisitions points to renewed corporate confidence and a strategic push to capture consumer markets.
Specifically, credit utilisation in the Micro, Small, and Medium Enterprises (MSME) space is performing at a rate around 5.5 times the average of the last 16 years. Major banks are also reporting healthy demand pipelines for both term loans and working capital, signaling sustained economic activity.
The Inflation and External Sector Dynamics
The growth story is complemented by manageable inflation and a stable external sector, barring some currency pressures. Rural demand remains steady, while urban demand is regaining momentum as inflation plateaus and formalisation creates more job opportunities.
On the external front, the Indian rupee recently breached the psychological barrier of 90 against the US dollar. This depreciation is attributed to a few factors: higher US tariffs affecting India relative to peers like China and Vietnam, activity in offshore markets, and foreign portfolio investors pulling out from equities. However, the trade deficit remains only marginally higher than the previous year, suggesting the pressure may be cyclical.
Despite these currency movements, no major red flags are visible. Foreign Direct Investment (FDI) continues to be a stable source of inflow, and efforts to diversify exports are strengthening India's economic position.
Why a Rate Cut Could Be Premature and Detrimental
Given this constellation of strong data, the demand for a rate cut becomes difficult to justify. A reduction in the policy rate at this juncture could distort the delicate balance between growth and inflation. The Monetary Policy Committee's (MPC) primary mandate is to maintain inflation along the target while supporting sustainable growth, and a hasty cut could jeopardise this.
Furthermore, with households allocating a significant 34% of their savings to bank deposits, this segment of savers needs to be adequately rewarded, especially if bank credit growth continues to surprise on the upside. There is also a need for caution as asset prices across various classes show signs of buoyancy.
History offers little precedent for a rate cut in an economy growing above 8%. It would be a unique, if not unprecedented, move in India's monetary policy history. The RBI, therefore, may be better served by keeping its 'dry powder' ready for a more opportune time when growth signals might soften, rather than acting now when the economy is demonstrating clear momentum.
The current policy rates appear to be contributing to an environment where various sectors are finding an optimal space for growth. The strategic combination of supervisory and regulatory measures is already yielding positive results, suggesting that the economy can continue to clock higher numbers under the existing monetary policy stance.
