Expert Zone

Straight from the Specialists

Will higher interest rates lower growth?


(The views expressed in this column are the author’s own and do not represent those of Reuters)

The Reserve Bank of India (RBI) increased the repo rate by 50 bps on May 3 and there was an outburst of opinions that the rate of GDP growth will drop. The consensus seemed to be that it would drop to 8 pct, a 100 bps less than what we had been used to.

Of course, May 3 was the first time in two years that the RBI raised the repo rate by a hefty 50 bps. In the earlier eight installments, the increase was only 25 bps.

Nevertheless, cumulatively that adds up to 200 bps. That had no impact on inflation and no impact on growth. Why should the additional 25 bps cause so much anxiety?

Most opinions did not contain explanations. It is relevant to ask why should an increase in repo rate hit GDP growth. How does the higher rate impact major sectors of the economy? How long does it take for the full impact to work itself out? These questions remain unanswered except for the assumed trade-off between inflation and growth.

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