The repo rate in India

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Last Updated18/05/2022

Earlier this month, RBI raised the repo rate by 40 basis points to 4.40%, with immediate effect

It is one of several direct and indirect instruments used by RBI for implementing monetary policy.
It is fixed interest rate at which RBI provides overnight liquidity to banks against the collateral of government and other approved securities under the liquidity adjustment facility (LAF).
When banks have short-term requirements for funds, they can place government securities that they hold with central bank and borrow money against these securities at the repo rate.
It serves as key benchmark for lenders to in turn price the loans they offer to their borrowers.

When government, central banks repurchase securities from commercial lenders, they do so at a discounted rate that is known as repo rate.
Repo rate system allows central banks to control money supply within economies by increasing or decreasing the availability of funds.

It functions as monetary tool to regulate availability of liquidity or funds in the banking system.
When repo rate is decreased: banks may find an incentive to sell securities back to the government in return for cash.
- This increases money supply available to general economy.
When the repo rate is increased: lenders would think twice before borrowing from the central bank at the repo window.
- It reduces availability of money supply in the economy.
Since inflation is caused by more money chasing the same quantity of goods and services available in an economy, central banks tend to target regulation of money supply as a means to slow inflation.

Inflation can broadly be: mainly demand driven or result of supply side factors.
Supply side factors push costs of inputs used by producers of goods and providers of services.
It spur inflation, or most often caused by a combination of both demand and supply side pressures.
Changes to the repo rate to influence interest rates and the availability of money supply majorly work only on demand side.
It makes credit more expensive and savings more attractive and therefore dissuading consumption.

Prelims take away