The Reserve Bank on Wednesday cut its key overnight lending and borrowing rates by 50 basis points each with immediate effect, signalling banks to further soften interest rates.

The repo, the rate at which RBI lends short-term funds to commercial banks, has been reduced from 9 per cent in October to 5 per cent now. Similarly, the reverse repo, the rate at which banks park overnight funds with RBI, has been brought down from 6 per cent to 3.5 per cent. 

The decision, RBI said, "will further encourage banks to provide credit for productive purposes at viable interest rates. The Reserve Bank on its part would continue to maintain ample liquidity in the system."

Hoping that the rate cuts would encourage banks to lend at varable rates, the apex bank said that concerns about rising NPAs had discouraged banks from lending earlier.

The decision to reduce key rates follows a review of the current global and domestic macro-economic situation, the RBI said.

Following the string of rate cuts by RBI, banks, especially state-owned, have reduced their lending and deposit rates considerably, but borrowing activities do not seem to have witnessed any major surge.

RBI Governor D Subbarao had earlier said there is room for further cut in policy rates.

Even though banks have cut lending rates in response to RBI's policy stance, the central bank said in a statement that "concerns over rising credit risk together with the slowing of economic activity appear to have moderated credit growth".

It further said that banks should ensure that creditworthy enterprises should continue to get funding.