You must have taken a loan from a bank and paid interest to them depending on the interest rate. Similarly, the repo rate is the rate of interest that any bank has to pay to the RBI when they borrow money from them. For example, if the existing repo rate is 6% and a bank borrows a sum of around Rs. 100 from RBI then that particular bank needs to pay Rs. 6 as interest. On the contrary, if banks deposit excess amounts of money with the apex banking body then the banks earn a reverse repo-rate which is normally 0.25% of the repo rate.
You must have watched several times on news channels or on newspapers that RBI has repo rate by so and so basis points. But have you ever wondered what exactly is this repo rate? Or how does it affect the common man and in turn the economy? This article will help you have a vivid idea on the consequences of repo rates on the economy.
Effects of repo rate on the economy
Repo rate as we have basically seen from above is related between a bank and RBI. But how does it affect the economy? Here are the ways how it does:
- Inflation Rise: During inflation, RBI raises the repo rate to cut down on banks borrowing money from the top bank. Also, industries find it hard to borrow money which slows down investment and thereby money supply. This helps to combat inflation, controls the flow of money to the economy, thereby, affecting it negatively.
- EMI factor: EMI is the monthly installment that you need to pay to clear off your outstanding dues. Experts believe that the rate cut will lower the EMI on home and vehicle loans which in turn is expected to benefit the owners and boost the economy as a result.
- Corporate sector: Certain startups and MSME businesses take business loans to meet operational costs but they need to repay the loan off when they reach a certain volume. When the RBI cuts the repo rate, the debt repayment becomes easy reducing the burden on the corporate sector.
- Impact on FD Returns: A high repo rate augurs well for fixed depositors as the interest rate remains high but to cope with the pulls of economy, sometimes the RBI is forced to cut down the rates. This, in turn, reduces the rate on FD which impacts senior citizens the most.
- Liquidity regulation: The responsibility of the RBI is to keep the flow of money to the banks. But in case of a liquidity shortage, RBI lowers its repo rates to control this fund crunch and encourage banks to borrow and lend more, thereby, maintaining a constant flow of money in the banking sector.
- Agricultural part: The Indian economy relies heavily on the agriculture sector. Hence, a slight alteration in this sector can affect the economy to a great extent. Repo rate cut may hit farmers the hardest as the minimum support price of their products is expected to go up while a higher repo rate allows the agricultural sector and the overall economy to flourish.
Additional Reading:- Repo Rate Linked Home Loan
RBI keeps changing the repo rates to cope up with the pressures of the economy. Generally, the repo rate cut affects every sector of the economy. While some may grow, others may find it difficult as a result of this rate cut. RBI has to keep every sector in mind while altering the repo rate. Overall it can be said that the rate cut brings good news for borrowers while hitting new depositors.