In the second bi-monthly review of monetary policy on Wednesday, RBI changed its status quo stance on these policy rates. The ruling repo-rate was increased by 25 basis points, i.e., from 6% to 6.25% and the reverse repo rate has reached a 6% benchmark. The reason cited by the RBI regarding the upward revision of repo-rate is the rise in inflation expectations in the first half (H1) of 2018 which had endangered the financial stability of the economy. World Bank report suggests that crude oil prices will rise to 20% this year, which could further deepen India's Current Account Deficit. The 25-basis-points rise in the repo-rate, in such a scenario, would result in a decline in net borrowing, ultimately de-motivating new borrowers from applying for loans or credit. Compare and discover the best credit card for you with additional perks and better rewards at mymoneykarma. A decline in the net borrowings would lead to lower levels of liquidity in the economy. An outrageously high repo-rate could depress the funds available in the banks, so, the interest rate on deposits is also increased by the commercial banks, to attract more depositors.
What is Repo Rate?
Repo-rate refers to the rate at which RBI lends money to the commercial banks, and the reverse repo rate is the rate at which the commercial banks lend money to RBI.
Trends in repo and reverse-repo rate have been reasonably stable over the last 4-5 years in India.
Impacts of the rise in repo-rate
- The increased cost of loans- In situations of financial crunch, the commercial banks approach the Central Bank of India to finance their expenses. A rise in repo-rate would generate pressure on the banks since borrowing from the RBI becomes costly. To solve this issue, banks tend to increase the rate of interest on housing, auto, and personal loans thus increasing the EMIs.When the interest rate on loans rises, people shy away from borrowing money from commercial banks.
- When the interest rates are rising rapidly, home loans get costly, and people refrain from buying a house. Fluctuations in policy rates should not deter anyone from buying their dream home, let mymoneykarma guide you to choose the best home loan scheme which would rescue you from undesirable fluctuations in the lending market.
- Increase in the interest rate on deposits- Liquidity refers to the ease at which a financial asset can be converted into currency. A higher repo-rate would increase the interest rate which in turn affects the liquidity of the economy negatively. So, to gather more funds, banks tend to attract depositors by raising the rate of interest on time and fixed deposits.