Updated on March 12, 2023
Repo rate means ‘repurchase option’ or ‘repurchase agreement’ and is defined as the rate at which the Reserve Bank of India lends money to commercial banks. Commercial banks in India borrow money from the Reserve bank whenever they want to fund their requirements or in case they see higher demand or if there is a shortage of funds. RBI provides the funds against securities such as Treasury Bills, Government Bonds etc. at the applicable ‘repo rate’.
Importance of Repo Rate
Repo Rate is an important mechanism for controlling inflation, increasing demand or for regulating liquidity levels in the economy.
When the RBI wants to reduce borrowings and control prices, the repo rate is increased. The purpose of increasing the repo rate is to make credit in the economy expensive, as the increased rate is passed by the banks to the customers. Expensive credit reduces consumer demand for goods and services.
When the RBI wants to increase money in the system, the repo rate is decreased. This results in more lending by banks to consumers in the form of Home Loans, consumer loans etc thus resulting in increased economic activity.