As the Fed chair and the RBI governor have repeated time and again, the big risk factor today is the reciprocal tariffs. The US is talking of heavy tariffs on all kinds of imports and that itself is likely to push up the US inflation to 4.0% That is more than 150 bps higher from current levels and a good 200 bps away from the Fed target rate. For India, the deficit in the trade account means that imported inflation could be a big challenge. The real story will only be visible once the 90 day pause ends towards the close of June 2025. Till then, the risk surely lingers. 

For India, oil prices and inflation have been closely linked. India imports nearly 85% of her daily crude oil needs. Hence, any spike in oil prices tends to directly translate into higher levels of inflation in India. Both the US and India have one more concern and that pertains to the price of gold. Currently, gold continues to hover near its lifetime high of $3,500/oz and any dip has been met with fresh buying. Gold is a key core inflation driver in the US and in India. That explains; why core inflation in both countries continues to be sticky. That remains a challenge. 

One of the big risks in cutting rates too much is that it can lead to exodus of capital to avenues that pay higher rate of interest. In the last one year, we saw the Indian rupee weaken from ₹83/$ to ₹87 per dollar and beyond. That was due to strength in the dollar. Remember, unlike the US dollar, the Indian rupee does not have the exorbitant privilege of being the currency of choice for trade and other commercial transactions. Hence, sharp cuts in the interest rates would only result in the rupee weakening. A weak rupee results in a higher payable liability for importers and also for companies that have foreign currency loans. That is one more risk of rate cuts India will be wary. 

In a recent speech last week, US FOMC member, Raphael Bostic, cautioned that the Fed may look at just one more rate cut in 2025. The RBI is confident of one more rate cut in June, but minutes show that further rate cuts may be extremely calibrated! One argument that the Fed and the RBI would have, is to keep some firepower in its arsenal. After all, too many rate cuts at this juncture would dent the ability of central banks to act fast if growth takes a hit due to tariffs. The likely scenario is that Fed may cut rates just once in 2025 and once in 2026. RBI may cut rates in June and be done with rate cuts. Holding rates beyond that; would be an appropriate choice now!