In a significant development on a seemingly ordinary Friday in 2025, the Indian financial markets were jolted by major news: the Reserve Bank of India (RBI) officially announced a reduction in the repo rate for commercial bank loans, cutting it by 25 basis points from the previous 6.50% to 6.25%. This move is particularly noteworthy as it marks the beginning of a rate-cutting cycle for India, the first since May 2020. This rapid monetary policy shift has captured the attention of global investors and economists alike, all eager to dissect the implications of this decision.

Since taking over as the head of the RBI in December of the previous year, Sanjay Malhotra has showcased a profound understanding of the economic landscape in IndiaHe has emphasized that, given the current trajectory of economic growth and inflation dynamics, a more relaxed monetary policy is warrantedAccording to the Indian government, the projected economic growth rate for the fiscal year 2024/25 stands at 6.4%, signaling a particularly weak year for the nation's economic performance since the onset of the COVID-19 pandemicIn a bold move aimed at invigorating the economy, Prime Minister Modi announced comprehensive tax cuts last week, raising the income tax threshold from approximately $8,000 to $14,800, intending to spur consumer spending and investment enthusiasm among the populace.

In the lead-up to this announcement, the Indian central bank had already infused a staggering $18 billion in liquidity into the banking system and had lowered the cash reserve ratio by half a percentage pointThis fresh cut in interest rates further diminishes the borrowing costs for businesses, making financing not only more accessible but also less expensiveSuch measures are poised to stimulate economic activity considerably, encouraging companies to expand operations, elevate investment levels, and boost employment and consumer spending.

However, lurking behind these rate cuts is another crucial factor: the need to address the outflow of foreign investment from the Indian stock market

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In recent years, India has emerged as a key focus for overseas capital, particularly in the context of an uncertain outlook for the Chinese marketsThis trend saw investors gravitating toward India and Japan as viable safe-havensWhile this influx propelled the growth and development of the Indian market, it also prompted concerns about inflated valuations.

According to Lincoln Pan, a partner and co-head of private equity at alternative investment firm PAG, two primary factors have been supporting the robust performance of the Indian stock marketFirst is the significant domestic capital investment, and second is the rapid growth of India's economic fundamentalsStatistics reveal that in 2024, the monthly inflow from India’s systematic investment plans (SIPs)—a form of equity mutual fund investment—stood at a remarkable $2.7 billionThis figure underscores the strong confidence and optimism among Indian residents regarding their national stock marketNevertheless, since October 2024, foreign institutions have substantially offloaded Asian equities, amounting to about $39.5 billion, with Indian stocks making up half of these salesThis drastic contrast starkly highlights the divided attitudes between domestic and international investors.

Delving deeper into the reasons behind the enthusiastic domestic investment in the stock market reveals some historical contextOne key factor has been a historical under-investment in equities; data indicates that the proportion of household savings in equities in India is less than 8%, marking a considerably lower rate in comparison to other Asian countriesThis discrepancy has fostered a strong desire among the Indian populace to boost their equity investmentsFurthermore, many households are keen to invest in stocks as a means to outpace inflation, thereby safeguarding and enhancing their asset values

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