All about Repo Rate

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All about Repo Rate
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What is a Repo Rate?

• Repo rate stands for repurchasing option.
• Suppose a bank is short of funds and cannot meet
  its obligations. It goes to the RBI to borrow
  funds.
• The bank which borrows from RBI is bound by
  certain rules.
• The bank has to offer collateral to the RBI in
  return.
• The RBI charges certain rate of interest from the
  borrower bank. This rate is called Repo Rate.
• Repo Rate keeps a check on inflation in the
  country by keeping a check on its banks.

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What is a Repo Rate? Continued

• In short, Repo rate is
• The rate of interest at which the RBI lends money
  to banks.
• RBI control inflation by this method.
• Banks sell their securities to the RBI and buy
  them back at a predetermined rate at a later
  date.

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How does Repo Rate work?

• When a bank goes to the RBI for a fund, it has to
  agree to pay a rate of interest.
• It must also mortgage its treasury bills of equal
  value for the overnight loan.
• The agreement states that the treasury bills will
  be bought back by the bank at a predetermined
  rate.
• Every bank is mandated to have a certain amount
  of liquid cash.
• Loans are given by the RBI against valid
  securities over and above mandated liquid cash or
  cash reserve ratio (CRR).

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How does Repo Rate work? Continued

• A part of the cash reserve ratio of every bank is
  deposited with the RBI to ensure a check on
  inflation.
• If the inflation level rises beyond a certain
  point, the central bank raises the CRR to gain
  control over the spending of individual banks.
• When there is less to spend for the bank, people
  find it difficult to get personal loans.

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How Repo Rate affects the economy?

• The repo rate is a way adopted by RBI to control
  the economy of India.
• It controls the rate of interest banks charge
  their customers.
• The repo rate controls the money supply, the rate
  of inflation, and liquidity.
• When the inflation rate is high, the RBI tries to
  restrict the money supply in the market by hiking
  the repo rate.

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How Repo Rate affects the economy? Continued

• When the repo rate is high, then
• The banks charge their customers a higher rate of
  interest.
• Fewer loans are avail by people, industrialists
  and businessmen.
• There is less investment made.
• Hence, there is less money in the market. 
• The negative impact is in the slowing down of the
  economy.
• However, it brings down the rate of inflation.

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Impact of the current Repo Rate

• Repo Rate stands at 5.75 currently.
• The reason behind current repo rate is inflation,
  which currently below 4 for six months. It is
  expected that inflation will be at this rate for
  next six months also.
• This will help the industrial growth and boost
  the economy.

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Repo Rate VS Reverse Repo Rate
Repo Rate Reverse Repo Rate
It is defined as the rate at which commercial banks borrow money from RBI It is defined as the rate at which RBI borrows money
Interestingly, Repo rate is higher than reverse repo rate Reverse Repo Rate is somewhat lower than Repo rate
This is used to control inflation. Reverse Repo Rate controls the supply of the money
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