How does repo rate impact common man?

The Reserve Bank of India (RBI) on Wednesday hiked the policy repo rate by 25 basis points to 6.5 per cent. This was the sixth straight in nearly 8 months.

The decision to raise the repo rate was approved by a 4-2 majority by the central bank’s Monetary Policy Committee (MPC), said RBI governor Shaktikanta Das. The RBI governor announced the decisions made by the committee, which met for three days starting February 6.

Loan EMIs to rise

The rise in repo rate will have a direct impact on loan borrowers and bank depositors. Now, banks too will raise the interest rate on retail loans, and usually also increase the tenure of the loan; the higher the remaining tenure of the loan, the higher the EMI.

Home loans, vehicle loans, educational loans, personal loans, mortgages, and credit cards are all affected by a repo rate hike. An increase in borrowing costs discourages the commoner from making unnecessary purchases. This affects the demand for goods and services in the economy.

In such a situation the optimism of new homebuyers will obviously get undermined. However, increased rates are beneficial for such consumers who have savings and fixed deposits

‘Repo rate to regulate cash flow, liquidity’

In banking, repo stands for ‘repurchase option.’ Repo rate is the rate at which the RBI lends money to commercial banks or financial institutions against government securities. Changes in Repo Rate affect the flow of money in the market. Precisely, it is the interest rate charged by the RBI when commercial banks borrow by selling their securities to the central bank. The RBI uses repo and the reverse repo rates to gently nudge interest rates offered throughout the banking sector and, therefore, the broader economy. It is one of the tools available to RBI under its monetary policy regime. The RBI uses monetary policy to maintain price stability while keeping in mind the objective of growth. The central controls the demand side of the economy with monetary policy. The primary target of the repo rate has always been inflation. How are inflation, cash flow, liquidity, and the repo rate related?

Increase in repo rate will reduce inflation in the economy

When the RBI hikes the repo rate, banks will have to shell out more money to borrow from the central bank, according to NewsBytes. It results in higher interest rates on loans they give out to customers. An increase in the cost of public borrowing will reduce the money supply or liquidity.

Why do banks borrow from RBI?

Banks borrow from the central bank, RBI in India’s case, when there is a shortage of funds or to maintain the cash reserve ratio (CRR). The CRR is the percentage of a bank’s total deposits that it needs to maintain as liquid cash. The CRR is prescribed by RBI in India.

Economic Growth

According to Amit Gupta, MD, SAG Infotech, economic growth will be unintendedly adversely affected by consecutive rate hikes in a short period of time, even though they are necessary to combat inflation, according to the Mint. “People will buy less and less goods and services because of it, which will affect demand. Growth is slowed by this. As a result, goods and services are no longer affordable to poor segments of society. It gets more expensive for everything,” said Gupta.

-INDIA NEWS STREAM