What Is Repo Rate & Reverse Repo Rate? How Does It Help Economy? And Its Impact On Common People.

Updated: Nov 13



Index:


1. What is Repo Rate?

2. The Current Repo Rate

3. Tools of Monetary Policy Committee- Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR)

4. What is Objective of Repo Rate?

5. What is Reverse Repo Rate?

6. The Current Reverse Repo Rate

7. How These Two Helps Economy?

8. Effect on Common People- Impact On Loans, Impact On Investments and Impact On Buying Power.

What Is Repo Rate?


The repo rate is rate at which The Central Bank of India that is RBI (Reserve Bank Of India) lends money to the banks in exchange for the securities.

RBI buys the securities like treasury bills from banks. Repo stands for ‘Repurchasing Option’ and it is the agreement done by banks with RBI for selling the securities.

The Current Repo Rate


The current repo rate is 4.00% as on date 22 May 2020.

The Monetary Policy Committee and It’s Tools.


The RBI’s ‘The Monetary Policy Committee’ is tasked to fix the policy rate that is repo rate to control inflation.

Following are the tools to control the money flow in the market.

1. Cash Reserve Ratio (CRR)


The cash reserve ratio is a percentage of deposits to be kept as reserve in cash by the banks with the RBI.

This is a percentage of total deposits of the banks to be kept in cash as reserve and banks cannot lend this amount to earn interest.

As it has to keep it as a reserve, high CRR means higher amount to be kept as reserve and this negatively impacts the economy cause it makes less availability of funds with banks which in turn reduces the lending capacity of the bank and slows down the investments.

That means higher the CRR, the lower will be liquidity in the market, and vice versa.

The RBI makes the CRR compulsory with banks because this reserve also helps whenever emergency funds are needed.

The current Cash Reserve Ratio is 3% of the Net Demand and Time Liabilities (NDTL) as on date 27 March 2020.

2. Statutory Liquidity Ratio (SLR)


Every Banks has to keep a certain quantity of funds in liquid assets like valuable metals (gold, silver, etc.) and government bonds.

This ratio of liquid funds with the Demand and Time Liabilities (NDTL) is called as Statutory Liquidity Ratio (SLR).

The SLR is fixed by the Monetary Policy Committee to control inflation. When SLR is increased, more funds are converted into liquid assets and decrease the amount of funds available to banks in cash.

This reduces the lending capacity of banks and investment capacity due to less money flow.

The current Statutory Liquidity Ratio is 21.50% as on date 27 March 2020.

What Is Objective Of Repo Rate?

1. The government uses the repo rate to control inflation. During higher inflation the government increases the repo rate to reduce the cash flow and vice versa.

2. To control the liquidity in the market. The government lowers the repo rate to pump the flow of money in the market which controls the liquidity in the market.

3. To increase the growth of the economy. Decreasing repo rate makes it cheaper to borrow the money which in turn increases the buying power of the people.

What Is Reverse Repo Rate?


It is a rate at which banks park their money with RBI. Banks usually can earn interest on their unused (idle) money from RBI.

The reverse repo rate is actually less than the repo rate because this will unnecessarily attract the banks to park their money. Also, this helps RBI to earn more than what is lent to banks.

The RBI always encourages banks to lend their money to individuals and businesses. In case of surplus money, they can lend it to RBI.

The Current Reverse Repo Rate


The current reverse repo rate is 3.35% as on date 22 May 2020.

How Does It Help Economy?


Repo rate have an inverse effect on inflation. When the repo rate is increased it’ll help to reduce the inflation and decreasing repo rate help inflation to go up.

If reverse repo rate is increased, banks may find it easy to earn interest from RBI by parking their money. This reduces the flow of money in the market which helps in controlling inflation.

Effect on Common People?

Impact On Loan

When the repo rate is increased that means RBI increases the interest rate at which banks borrowed money from RBI.

This also forces banks to increase the interest rate at which they lend money to individuals and businesses. That means loans become more costly.

But decreasing the repo rate also reduces interest rates on loans this create a huge difference in big loans like home loans.

Impact On Investments

Increase in repo rate decreases money flow the market and reduces the availability of money which ultimately reduces the capacity to invest.

Impact On Buying Power

Decreasing repo rate increases the money flow in the market which in turn increases buying power of the individual and can boost the economy.

Decreasing the reverse repo rate also increases money flow in the market as these forces banks to lend money to individual instead of RBI. Because in this way banks will earn more interest than from RBI.


The current rates:

Policy repo rate is 4.00% as on date 22 May 2020

Reverse repo rate is 3.35% as on date 22 May 2020

Marginal Standing Facility Rate is 4.25% as on date 22 May 2020

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