Banking Central | Will rate and tax cuts deliver the promised consumption boost?

Conosumer spending patterns rely on multiple factors

Two major policy moves in recent days—a substantial tax rebate in the Union Budget and a 25 basis point (bps) rate cut by the Reserve Bank of India (RBI)—appear poised to uplift consumer sentiment. But the critical question remains: will these measures translate into meaningful changes in actual consumption patterns?

The tax rebate, which benefits individuals earning up to Rs 12 lakh annually, ostensibly puts more disposable income in the hands of the middle class. This, in theory, should boost spending beyond basic needs.

Concurrently, the RBI’s rate cut signals the onset of an easing cycle after nearly five years, theoretically lowering borrowing costs and providing psychological encouragement to potential borrowers. Together, these measures create a growth-positive environment, aimed at stimulating demand in an economy grappling with sluggish growth, muted urban consumption, and stagnant private investment.

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However, the reality may be less optimistic. A 25 bps rate cut alone is unlikely to significantly reduce EMIs — translating to mere hundreds of rupees in savings for most borrowers. This marginal relief is insufficient to trigger a spending spree. For the rate cut to have meaningful impact, it would need to be part of a series of reductions, leading to a substantial decrease in lending rates. Such a scenario hinges on inflation trends and the RBI’s willingness to continue easing monetary policy.

Moreover, consumer behaviour is influenced more by broader economic conditions than by isolated fiscal or monetary tweaks. Factors such as job market stability, income growth, and inflation expectations play a decisive role. Without tangible improvements in these areas, the psychological boost from a rate cut and tax rebate might not convert into real economic activity.

Yet, the RBI’s decision to cut rates is not without significance. It aligns monetary policy with the government’s fiscal strategy, aiming to reinvigorate consumption at a time when the economy needs it most.

The rate cut could enhance affordability in the housing sector, potentially sparking renewed demand. This optimism is grounded in recent trends; while 2024 saw record real estate sales, rising property prices had begun to dampen momentum, per experts. The rate cut, coupled with budgetary incentives for mid-income homebuyers, could sustain market buoyancy.

To sum up, while the tax rebate and rate cut are commendable steps toward stimulating demand, their real impact on consumption will depend on a confluence of factors—continued policy support, inflation management, and overall economic sentiment. The stage is set, but the script will unfold based on how these variables interact in the months ahead.

(Banking Central is a weekly column that keeps a close watch on and connects the dots regarding the sector's most important events for readers.)