Repo Rate

Repo rate is the interest rate at which the central bank of a country lends money to commercial banks. The central bank of Bangladesh Bank uses repo rate to regulate liquidity in the economy. In banking, repo rate is related to ‘repurchase option’ or ‘repurchase agreement’. When there is a shortage of funds, commercial banks borrow money from the central bank which is repaid according to the repo rate applicable.

The central bank provides these short terms loans against securities such as treasury bills or government bonds. This monetary policy is used by the central bank to control inflation or increase the liquidity of banks. The government increases the repo rate when they need to control prices and restrict borrowings.

On the other hand, the repo rate is decreased when there is a need to infuse more money into the market and support economic growth. An increase in repo rate means commercial banks have to pay more interest for the money lent to them and therefore, a change in repo rate eventually affects public borrowings such as home loan, EMIs, etc. From interest charged by commercial banks on loans to the returns from deposits, various financial and investment instruments are indirectly dependent on the repo rate.

Reverse Repo Rate: This is the rate the central bank of a country pays its commercial banks to park their excess funds in the central bank. Reverse repo rate is also a monetary policy used by the central bank (which is RBI in India) to regulate the flow of money in the market.

When in need, the central bank of a country borrows money from commercial banks and pays them interest as per the reverse repo rate applicable. At a given point in time, the reverse repo rate provided by RBI is generally lower than the repo rate.

While repo rate is used to regulate liquidity in the economy, reverse repo rate is used to control cash flow in the market. When there is inflation in the economy, RBI increases the reverse repo rate to encourage commercial banks to make deposits in the central bank and earn returns. This in turn absorbs excessive funds from the market and reduces the money available for the public to borrow.

Repo rate and reverse repo rate are the measures used by central banks and other banking institutions to manage their daily short-term liquidity.

Repo rate is the rate of interest at which commercial banks borrow money from the central bank i.e. Reserve bank of India (RBI). RBI lends money to commercial banks against government securities.

The reverse repo rate is the rate of interest at which commercial banks keep their deposit with the central bank. It is a safer approach opted by most of the banking institutions to secure their funds, in case of surplus money. In other words, the reverse repo rate is an interest earned on the deposited funds.

The key difference between the repo rate and reverse repo rate is that, in repo rate interest is earned by RBI by giving loans to the commercial banks and in reverse repo rate, interest is earned by commercial banks on their deposited funds with RBI.

The reverse repo rate is used to control the liquidity in the economy and the repo rate is used to control inflation. The central banks always keep the reverse repo rate lower than the repo rate.

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