Analysts in India see a three-fold benefit if the US Federal Reserve decides to lower interest rates at its September meeting this week amid signs of a cooling US labour market and tariff-related pressure on inflation.
First, a lower interest rate in the US is expected to make the Indian market comparatively more attractive to foreign investors than at present. It could put the brakes on the current high outflows from India.
Second, a US rate cut could slow down the Indian rupee’s current slide against the dollar, with downside risks from geopolitical and tariff-related concerns.
Third, if the domestic inflation remains manageable, it could prompt the Reserve Bank of India (RBI) to consider a rate cut towards the end of 2025 to further stimulate the economy.
Why the Fed may cut interest rate and how much?
To boost economic activity and reduce unemployment, central banks lower interest rates to encourage borrowing and spending.
The US job growth has weakened sharply in August, and the unemployment rate has increased to nearly a four-year high of 4.3 per cent.
Consumer prices in the US rose 0.4 per cent in August, the sharpest increase in seven months, but in line with expectations, which analysts said could keep the Fed on track to weigh in rate cuts.
So far, the Fed has held rates steady in 2025 with a stance of flexibility to respond to economic shocks tied to shifting polices from the Trump administration.
Last month, Fed chair Jerome Powell said there is significant uncertainty around current policies (in the US), where they will settle, and their lasting effect on the economy. “The baseline outlook and the shifting balance of risks may warrant adjusting our policy stance,” Powell had said.
Morgan Stanley and Deutsche Bank, in separate notes, have said they expect the Fed to cut rates by 25 basis points at each of its remaining meetings in September, October and December, kickstarting a new easing cycle, its first since the 25 basis points reduction in December 2024. The benchmark interest rate range has remained at 4.25-4.5 per cent since December.
Traders have priced in a 95 per cent chance of a 25-basis point rate, according to the CME FedWatch Tool, with a slim 5 per cent chance of a deeper 50-basis-point cut, which is also being estimated by Standard Chartered.
What does a US interest rate cut mean for India?
The US 10-year bond yield, currently at around 4 per cent, is likely to decline, following a reduction in interest rates, and there is past precedent of the same.
Data compiled by JP Morgan shows that in the past seven rate cut cycles of the Fed dating back to the 1980s, except the December 2024 rate cut, the yield on 10-year treasury bonds was lower 100 per cent of the time, for 100 days after the first rate cut.
Only in the case of the December 2024 rate cut, bond yields had increased on account of a higher-than-anticipated growth of the US economy of 2.8 per cent in 2024. The IMF, however, expects the US economy to grow at a slower pace of 1.9 per cent in 2025.
“With the Fed expected to pivot and US 10-year yields likely to decline further, the yield differential between India and the US is set to widen,” said Hitesh Jain, lead analyst at Yes Securities.
At present, the Indian 10-year bond yield is around 6.48 per cent. A higher India-US bond yield gap could attract foreign portfolio investors into the Indian market, Jain said.
Data from NSDL shows that foreign investors have withdrawn ₹99,992 crore so far in 2025.
Currency angle
On the currency front, the dollar typically falls when interest rates are cut in the US because lower rates make a country’s assets less attractive to foreign investors, reducing demand for its currency and thus weakening it.
The rupee had started 2025 at a level of 85.64 against the US dollar but has depreciated to 88.27 as of September 12, 2025 and was among the worst performers among its Asian peers against the greenback. This is primarily driven by foreign investors selling off their holdings and compounded by the trade concerns from the 50 per cent tariff imposed by the US on Indian exports.
“So far this year, the rupee is the worst-performing currency in Asia, a clear signal that despite our strong domestic economy, we are not immune to global trade worries and capital flight. “Among the Asian currencies, the Taiwanese Dollar gained the most amid growing economic clout as a technology powerhouse and has attracted favourable capital flows,” said Dilip Parmar, research analyst, HDFC Securities.
Analysts expect the domestic currency to appreciate with downside risk from any unfavourable outcome from the bilateral trade negotiation with the US.
“With the RBI capping volatility through active spot and NDF (non-deliverable forwards) intervention, and global factors such as Fed easing expected to weaken the dollar further, the probability of USD/INR sustaining above 88 appears low. Instead, stabilisation in the 86.5–88 band looks more plausible, barring a fresh escalation in tariff or geopolitical risks,” said Jain.
Even as India’s CPI inflation has inched up to 2.07 per cent in August, an interest rate cut by the US could leave room for a further rate cut consideration by the RBI.
“While we see a pause by the RBI in the upcoming policy (October), we do see some scope for rate cuts worth 25-50 basis points opening up from December policy if downside risks to growth materialise and the Fed moves ahead with aggressive rate cuts,” said Upasna Bhardwaj, chief economist, Kotak Mahindra Bank.