Reverse Repo Rate in detail

The Reverse Repo Rate is an important monetary policy tool used by RBI to control the supply of money, liquidity and inflation in the economy. It is the rate at which the central bank of a country (Reserve Bank of India in case of India) borrows money from commercial banks within the country for a short term.  The Reverse Repo Rate helps the RBI get money from the banks when it needs. In return, the RBI offers attractive interest rates to them.

Most of the times, commercial banks may voluntarily deposit their funds with RBI when they have excess funds so as to earn higher interest rate on them. This is a much safer approach as compared to lending the money to other companies or customers.

In India, the current Reverse Repo Rate is decided by the RBI’s Monetary Policy Committee* (MPC), headed by the RBI Governor.

IMPACT OF REVERSE REPO RATE ON THE ECONOMY

  • To control inflation :- At the time of high inflation, RBI increases the reverse repo rate which encourages the banks to deposit their excess funds with RBI thereby earning higher interest rates. This will ultimately result in less circulation of money in the market which will control inflation.
  • To increase the money supply :– In order to increase the liquidity in the economy, RBI reduces the reverse repo rate . This will discourage the banks from lending their money to RBI since they will earn less interest on the funds. This money will be then circulated in the markets, thereby increasing the overall liquidity in the economy.

DIFFERENCE BETWEEN REPO RATE & REVERSE REPO RATE 

Repo rate is completely the opposite of Reverse repo rate.

Repo rate refers to the rate at which the RBI lends money to the commercial banks to meet the shortfall of funds. On the contrary, Reverse repo rate is the rate at which RBI borrows money from the commercial banks for a short term.

Repo rate is always higher than reverse repo rate. The difference between the two rates is the RBI’s income. Reverse repo rate is generally kept lower so as to discourage banks from depositing their excess funds with RBI & instead lend them to businesses & industries for investment purposes.

At present, the Reverse repo rate in India is 3.35% .

 

Thus, in simple words Reverse Repo Rate is an effective tool used by RBI to maintain & control liquidity & inflation position in the economy.

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