Repo rate is the rate of interest at which commercial banks borrow money from the central bank i.e. Reserve bank of India (RBI). In the case of inflation, RBI increases the repo rate, and in the case of deflation decreases it. RBI increases the repo rate to remove the excess supply of the money out of the market.
Reverse repo rate is the rate of interest at which commercial banks keep their deposit with the central bank.
Repo rate is the repurchasing option rate at which commercial banks borrow money, overnight, from the central bank, i.e. Reserve Bank of India or RBI. RBI also uses the repo rate to regulate inflation.
Repo Rate meaning
When commercial banks face a shortage of funds, they take a one-day loan from RBI by selling RBI-approved securities such as treasury bills(in excess of their statutory liquidity ratio limit).
To repay the banks buy back the securities deposited at a specified price known as the repurchasing option or repo. The percentage difference between the selling price and repo price is the interest rate charged by RBI and is known as the repo rate.
If RBI increases the repo rate, it makes it difficult for banks to borrow from it, reducing the cash flows in the economy, arresting inflation.
Decreasing the repo rate, consequently increases cash flows in the economy as credit becomes cheaper and spurs spending in the economy. It is a way of addressing a slowdown.
RBI holds quarterly meetings to declare the repo rate for the quarter.
Current Repo Rate and Reverse Repo Rates December 2020
What is the Current Repo Rate?
The current repo rate in India is 4.00%. The monetary policy committee of the RBI that last met in December 2020 did not change the policy rate.
What is the Current Reverse Repo Rate?
The current reverse repo rate in India is 3.35%.
The monetary policy committee of the RBI that last met in December 2020 maintained continuity in the reverse repo rate.
Repo Rate and Reverse Repo Rate
Repo rate and reverse repo rate are the measures used by central banks and other banking institutions to manage their daily short-term liquidity.
Repo rate is the rate of interest at which commercial banks borrow money from the central bank i.e. Reserve bank of India (RBI). RBI lends money to commercial banks against government securities.
The reverse repo rate is the rate of interest at which commercial banks keep their deposit with the central bank. It is a safer approach opted by most of the banking institutions to secure their funds, in case of surplus money. In other words, the reverse repo rate is an interest earned on the deposited funds.
The key difference between the repo rate and reverse repo rate is that, in repo rate interest is earned by RBI by giving loans to the commercial banks and in reverse repo rate, interest is earned by commercial banks on their deposited funds with RBI.
The reverse repo rate is used to control the liquidity in the economy and the repo rate is used to control inflation. The central banks always keep the reverse repo rate lower than the repo rate.
Who decides the Repo Rate?
The Monetary Policy Committee (MPC) along with the RBI governor who is the chairperson of the committee decides the repo rate based on the inflation and fiscal projections.
Repo Rate as a Monetary Policy Tool
The primary objective of the Monetary Policy Committee (MPC) constituted to decide the repo rate is to keep inflation under control and ensure that it remains within a target range.
How does the Repo Rate affect me?
RBI increases the repo rate to remove the excess supply of the money out of the market. If RBI increases the repo rate that means commercial banks have to pay more interest if they want to borrow loans, which discourages businesses and industries to borrow money from the banks at a higher rate, instead it encourages people to deposit money in the bank, in-short controlling liquidity in the market. In the case of the reverse repo rate, it is totally the opposite.
To increase the liquidity in the market RBI reduces the reverse repo rate, which enables businesses and industries to borrow loans for investment purposes.
Repo rate vs Bank rate
In the case of repo rate RBI lends money to the commercial bank by purchasing government securities. And in case of a bank rate, the commercial banks can borrow loans from the central bank i.e. RBI without selling any government securities.
The bank rate impacts directly to the consumer because it is an important factor that decides what interest rate loan should be offered to the people. On the other hand, the repo rate does not impact the public directly.
Repo Rate and Inflation
The central bank i.e. The Reserve Bank of India (RBI) lends money to the commercial banks in case of a shortage of funds at an interest rate, which is known as Repo Rate. Monetary authorities use this measure to regulate inflation. In the case of inflation, RBI increases the repo rate, and in case of deflation decreases it.
The current policy of the RBI
The RBI in the latest (4th December 2020) MPC meet left the key interest rates unchanged for the third time in a row and through its commentary maintained an accommodative stance, against the backdrop of inflation remaining elevated, above the tolerance band of 2-6 percent.
More importantly, it hinted at more easing ahead to support the economy if the need arises. All the members of the MPC voted unanimously in favor of maintaining a pause. This was the 26th MPC meeting since its inception in June 2016. The Reserve Bank continued to maintain an accommodative stance and signaled that it will continue to do so at least for this financial year.
Key RBI monetary policy rates currently are:
|Reverse Repo Rate||3.35%|
|Marginal Standing Facility||4.25%|
What is accommodative stance?
An accommodative stance means that the central bank is willing to loosen the monetary conditions in the economy further, by expanding the supply of money to support slowing economic growth (as measured by the GDP). When the economy slows, the RBI can implement an accommodative monetary policy where it cuts the benchmark policy rates to stimulate the economy, by reducing the cost the borrowing.
An accommodative stance implies that the central bank is willing to further cut the interest rates to support the economy if the need arises. The continuation of the accommodative stance underlines the importance that the central bank is placing on reviving growth at the current juncture.
RBI, also revised upwards its growth forecast for the current financial year, from a contraction of about 9.5 percent to a contraction of about 7.5 percent, with the expectation of an expansion of 0.1 percent and 0.7 percent in the third and the fourth quarter of this fiscal, respectively.
The central bank also forecasted the inflation rate to be at 6.8 percent in the third quarter and 5.8 percent for the fourth quarter for this fiscal year. Further, it projected inflation to be at 4.6 percent in the next financial year.