The Hindu: Published on 23rd June 2025:
Why in News?
The Reserve Bank of India (RBI) has recently undertaken two successive cuts in the policy repo rate (totaling 75 basis points), bringing it down to 5.5% by June 2025. This comes alongside the government’s February 2025 income tax cuts, creating a rare situation where both monetary and fiscal policies are simultaneously expansionary. The news raises concerns about macroeconomic stability and coordination between these two critical arms of economic policy.
Background:
After the COVID-19 era recovery and global inflation spikes, India had adopted a tight monetary policy.
With inflation cooling to 3% in June 2025 (lowest in six years) and muted economic growth, the RBI shifted its stance to a more accommodative monetary policy.
Government too took a pro-growth stance by slashing income tax rates in February 2025.
Historical experiences in U.S. and U.K. show such dual expansionary policies can backfire if not well-coordinated.
Key Issues:
Lack of Coordination: Fiscal and monetary authorities appear to be acting in parallel rather than in sync. This may risk overshooting aggregate demand.
Weak Growth Response: Despite the tax cuts, credit growth has slowed to a 3-year low (9%), and unemployment has risen (from 5.1% to 5.6%).
Delayed Consumption: Households have not immediately increased spending, challenging the assumption that consumers are forward-looking.
Inflation Forecast Risks: If spending picks up later, both inflation and interest rates may spike suddenly.
Deficit Concerns: If output doesn't rise as expected, tax revenue may fall, widening the fiscal deficit, forcing possible cuts in essential spending.
Implications:
Short-Term: Immediate boost to liquidity and investment sentiment. Possibility of mild growth recovery.
Medium-Term: If growth remains sluggish, fiscal deficit may widen, limiting future policy options.
Long-Term: Risk of future inflation surge when both consumption and investment rise together, requiring a sharp monetary policy tightening later.
Policy Debate:
Should India continue with both policies being expansionary, or should one leg hold back?
Is it time to focus more on targeted government spending—on wages, rural income, and job creation—rather than generalized stimulus?
Is the current low inflation transitory, or a structural opportunity to push growth?
Way Forward:
- Strengthen coordination between the RBI and the Finance Ministry.
- Monitor inflation expectations closely to avoid future volatility.
- Shift fiscal focus from tax cuts to welfare-linked capital expenditure to drive equitable growth.
- If growth continues to lag, RBI might need to cut rates further, but cautiously.
