Now, these days there are a lot of people talking about the Repo rate, inflation, economic slowdown, and all that stuff so let us know what these things are. and how they are connected to each other.
The repo rate is the interest rate at which the Reserve Bank of India lends money to commercial banks. In other words, commercial banks borrow money from the Reserve Bank of India by selling securities or bonds with an agreement to repurchase the securities on a certain date at a predetermined price. Repo Rate also decides the liquidity rate in the banking system. If RBI wants to increase the liquidity rate, they reduce the Repo Rate and encourage the banks to sell their securities and if the central bank wants to control liquidity, they increase the interest rate, discouraging banks to borrow easily. An increased Repo Rate means that the central bank will earn a higher interest rate from the commercial banks, while an increased Reverse Repo Rate means that the commercial banks earn high interest from the central bank.
Reverse Repo rate
As the name implies, reverse repo is the inverse contract to the repo rate. The reverse repo rate is the rate at which the RBI borrows funds from the country’s commercial banks. It is the rate where the commercial banks in India park excess funds with the Reserve Bank of India, typically for a short period of time. For example: If the Repo Rate is 5% and the funds deposited by the commercial bank to the RBI account are Rs 10,000, then, the interest paid to the commercial bank by RBI is Rs 500.
What is the key difference between the Repo rate and the Reverse Repo rate?
Reverse repo rate
Commercial banks deposit excess funds to RBI and earn interest
Commercial banks provide securities to RBI to get funds and repurchase securities at a pre-determined rate and time
Increase in rate results in lower liquidity in the economy as banks invest in the RBI
Increase in rate results in a high cost of funds which makes loans costlier
Helps the RBI to control the money supply
Helps the RBI to control inflation
History of Changes to Repo Rate
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