Explained: Significance of US Federal Reserves rate cut and its impact on India

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  1. United States Federal Reserve has announced a quarter percentage point cut in interest rates.It is the first rate cut since the global financial crisis broke in 2008.
  2. The Fed has cited concerns about the global economy and lower US inflation among the key reasons for the decision to cut rates and signalled a readiness to lower interest rates further if needed.
  3. 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.
  4. Further,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.
  5. As a result,Foreign institutional investors(FIIs) 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 Rupee terms to earn a higher rate of interest.
  6. When the US Fed cuts its interest rates,the difference between the interest rates of the two countries increases,thus making India more attractive for the currency carry trade.
  7. A rate cut by the Fed would also mean a greater impetus to growth in the US which could be positive news for global growth.But this could also translate into more equity investments in the US which could temper investor enthusiasm for emerging market economies in a proportionate manner.