Note4Students
From UPSC perspective, the following things are important :
Prelims level : Not Much
Mains level : USD inflow in India
- The US Federal Reserve has announced a quarter-percentage-point cut in interest rates — the first rate cut by the US central bank in 11 years.
Why is US Fed’s rate-cut significant?
- The cut in interest rates is the first time since the 2008 financial crisis.
- What is ironic is that this move comes despite a strong US economy and indicators such as job market data showing renewed buoyancy.
- The rate cut follows months of pressure from US President who has been pushing the American central bank for a cut in rates.
Impact on India
- A rate cut cycle means a weaker dollar, which is good for the US but may not be so for the rest of the world.
- It has been seen in the past that as the dollar weakens due to lower growth tendencies, the rupee has tended to strengthen which will pose a conundrum for us as exports will come under pressure.
- The exports will be reduced due to lower global growth and a stronger rupee. This will not be good for the current account deficit (CAD).
Benefits
- A rate cut in the US is good for emerging market economies and is projected to catalyse a debt and equity market rally in countries such as India.
- Typically, emerging economies such as India tend to have higher inflation and thereby higher interest rates than those in developed countries such as the US and Europe.
- As a result, investors would want to borrow money in the US at low-interest rates in dollar terms and then invest that money in bonds of emerging countries such as India in terms to earn a higher rate of interest.
- When the US Fed cuts its interest rates, the difference between interest rates of the two countries increases, thus making India more attractive for the currency carry trade.