Banks have been increasing lending rates since March 2018.
In recent weeks, it has also eased curbs on some state-owned bank lenders and is set to provide the government with a bigger dividend out of surplus central bank funds. Some of those issues worsened dramatically after the government suddenly banned the use of then existing high-denomination banknotes in 2016 and hastily introduced a new national sales tax in 2017.
The shift in monetary policy comes nearly a week after Modi's government unveiled a budget packed with measures sure to please many voters, including fresh tax breaks for middle-class families and payments to India's struggling small farmers.
With Brexit hanging over the outlook, the bank said that its forecasts would need to be updated "once greater clarity emerged about the nature of European Union withdrawal".
"The decision would supplement government's measures announced in the budget and will boost lending to farmers, housing and manufacturing sectors", he said. "Going by the guidance, there is room for a further rate cut".
Four of six MPC members voted to cut the rates, while all backed the stance change to "neutral" from "calibrated tightening".
But the faster-than-expected move isn't likely to help the economy much, they said.
"Investment activity is recovering, but is supported mainly by public spending on infrastructure", the MPC said in a statement, adding there is a need to strengthen private investment and buttress private consumption.
The BoE sent a reminder to investors that rates might rise more quickly than they expect by saying it saw inflation in two years' time at 2.1 percent, a touch above its 2 percent target.
Rate rises would run counter to moves by other central banks.
The Bank added a bigger-than-expected slump in the global economy is also impacting United Kingdom growth.
The rate cut also underlines fears about slowing economic growth. Experts said rate-setters are likely to hold off from raising rates for some time until Brexit clarity emerges.
Economic growth had fallen to a worse-than-expected 7.1 percent in the July-September quarter from 8.2 percent for the previous one, dragged down by slower consumer spending and farm growth.
"Our loan requirement has been rising as fertiliser and diesel prices are going up".
"But we have to keep in mind that fixing the rate of the interest is a function of the bank".
Praveen Khandelwal, secretary of the Confederation of All India Traders, a traders lobby group, said a majority of India's traders and small manufacturers were finding it hard to borrow from banks, who are struggling to deal with $150 billion in distressed assets.