Meaning
of Repo Rate
The rate at
which the RBI lends money to commercial banks is called repo rate. It
is an instrument of monetary policy. Whenever banks have any shortage of funds
they can borrow from the RBI. A reduction in the repo rate helps banks
get money at a cheaper rate and vice versa.
When repo rate increases
§
Banks
lend from RBI at a higher rates of interest
§
They
lend it to borrowers at a high rate of interest
§
As
lending interest rate increases, borrowing of money decreases
§
Increase
in the deposit interest rate to attract depositors
When repo rate decreases
§
Increase
in money supply in economy
§
Increase
in demand of goods
§
Increase
in GDP growth
Ø
Significance of
Repo and Reverse Repo Rates?
In case of an
inflation, RBI will try to reduce the amount of money in circulation by
increasing the repo Rate. When repo rates are increased, banks will borrow less
from RBI and hence the amount of
money they will be lending to the public also decrease. In case of a deflation,
RBI will want to inject more money into circulation and hence they will reduce
the repo rate.
Increase in repo rate can have serious impact on the growth since industries will find it difficult to raise money from the banks. Therefore bank rates are only increased when rate of inflation become too high and that too only for a short period.
Increase in repo rate can have serious impact on the growth since industries will find it difficult to raise money from the banks. Therefore bank rates are only increased when rate of inflation become too high and that too only for a short period.
·
Increase in Repo rate
Reverse
Repo rate is the rate at which RBI borrows money from the commercial banks. The
increase in the Repo rate will increase the cost of borrowing and lending of
the banks which will discourage the public to borrow money and will encourage
them to deposit. As the rates are high the availability of credit and demand
decreases resulting to decrease in inflation.
·
RBI raises repo rate by 25 bps to 8 per cent
The repo rate, at
which banks borrow short-term money from RBI, was raised by 25 basis points, or
0.25 percentage point, to 8 per cent. The reverse repo, at which RBI borrows
from banks, was raised 25 basis points to 7 per cent. The marginal standing
facility, the penal rate of interest for banks, was raised 25 basis points to 9
per cent to maintain the corridor. The cash reserve ratio was unchanged at 4
per cent.
·
Effects of Repo rate on
Inflation
When the
repo rate is raised, banks are compelled to pay higher interest to the RBI
which in turn prompts them to raise the interest rates on loans they offer to customers. If
the availability of funds is scarce, and banks are not able to borrow at repo
rate, they may have to increase the deposits rates upwards to attract
depositors. Hence, any rate hike in repo rate increases the probability of
higher deposit rates, which is good news for depositors.
·
Impact on Sectors
Sectors
such as automobiles, consumer durables and realty are the most vulnerable in
the scenario where policy rate hikes push the interest rates. Rising rates
would not only reduce the demand for these companies’ products, they will also
affect their earnings in terms of rising interest costs. Rising rates would
also impact companies with higher leverage.
·
Impact on borrowers
Due to the current rate hike, the worst affected are
home loan borrowers who are servicing the loan under floating interest rate as the
lenders have the power to increase the rates of interest on the basis of its
base rate for their floating rates.
·
Impact of hike in repo rate to
common men and economy
This hike in repo rates are passed on by the banks inform of
increase in borrowing rate to common men. So, cost of auto, education, home and
personal loans will increase correspondingly. Loans to companies for its
operations also increases which led to decline in borrowings. These factors
penalize Indian industry which has already slowed down.
Ø Pros and Cons of Raporate in
Current Senario
Pros
This
tool is a quick fix for woes of economy and brings in results very fast. The
higher the number goes, less money is available in economy and inflation goes
down. The lower this number and more money will be available in country to
enable it to go on growth path.
Cons
The change in this number affects
both growth rate and inflation of economy. If this number is raised, inflation
reduces, and growth also reduces. So this tool should be used with extreme
caution.
RBI
rate hike will check inflation: C Rangarajan
PTI Jan
28, 2014, 04.41PM IST
NEW
DELHI: The Reserve Bank's hiking the key lending rate by 0.25 per cent is a
reflection of its "strong commitment" to check inflation, Prime Minister's Economic Advisory Council (PMEAC)
Chairman C Rangarajan said
on 29/1/2014 .
"This is a reflection of the strong
commitment of Reserve Bank to the price stability as the chief objective of the
monetary policy. I think the decision also reflects certain change in terms of
the indicators that they are monitoring," Rangarajan said post RBI's third
quarter monetary policy . "...it is also indicated that perhaps if
inflation moves along the direction expected, perhaps this may be the last in
the series of increasing in the policy rates," he added. Rangarajan said
the RBI decision to raise to 8 per cent the repo rate, at which it lends to
banks - also reflects certain change in terms of the indicators monitored by
them.
"While
the Wholesale Price Inflation (WPI) remains near
the comfort zone, the Consumer Price Inflation (CPI) is not. Therefore the
decision to increase the interest rate is once again reflection of the shift in
terms of the focus from wholesale price inflation to retail inflation," he
added. Retail or CPI inflation in December had moderated to a three month low
of 9.87 per cent, while the wholesale or WPI was at 5-month low of 6.16 per
cent. NainaLalKidwai, the Country Head, India Operations of HSBC Bank said the
monetary policy decision of RBI will see the "inflation responding for a
change".
"The
concern, of course, remains on food prices. We have not yet had enough action
on some moves to ensure that food inflation comes down. But, of course we need
to continue to see investment. The biggest worry is growth," she said.
Expressing no surprise over the RBI decision to hike the repo rate - the rate
at which the RBI lends money to commercial banks - Head of Research, Standard Chartered Bank Samiran Chakraborty
hoped there will be no further rate hike.
"Rate hike is not a complete
surprise. The Urjit Patel Committee clearly focuses on headline inflation. We
could have seen the rate hike in December as well... At this moment, I am not
expecting any further rate hike," Chakraborty said. Replying to a question
on the impact of rate hike on growth, Rangarajan said that it will be higher
than what RBI has projected.
"I think the growth rate will be
somewhat higher than what they are projecting. I expect the growth rate for the
current year itself to be around 5 per cent. And perhaps the pickup in the
growth in the next year will be somewhat higher than what they have indicated.
I think that the growth rate next year could be in the range of 6-6.5 per
cent," Rangarajan said. In its review, the RBI has projected the GDP
growth to be less than 5 per cent in current fiscal. For next fiscal beginning
April 1, 2014 it has projected growth to improve to 5.5 per cent.
Suggestion:I do not think there
was a need to raise the rate. This step by RBI would encourage banks to raise
their lending rates, thereby impacting buyers’ decisions. RBI should understand
that without a flexible credit facility, it will be difficult for many sectors
to grow. It will also affects individual and
Indian economy. As the lending rates
increase and the liquidity crunch prevails, will generally tend to economic
slowdown. However the RBI and the govt. must try to find out better ways to
balance the rising inflation and economic growth of the country.
Conclusion: Increase in rapo rate is good
for some but bad for many.Due to increase in the repo rates by the central
bank (RBI), the banks are going to increase the primary lending rates which
will be generally ranging from loans for homes, automobiles and even study
loans. Main objective of increase in
rapo rate is to control the inflation rate.
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