Repo rate is the benchmark rate at which banks borrow money from RBI for a specific period against the collateral of Treasury bills or Government securities. In case RBI reduces the repo rate, it helps the commercial banks access funds at a cheaper rate,
while a hike in rates makes funds expensive for banks and, in turn, leads to higher lending rates by the banks.
While RBI borrows money from the commercial banks at the reverse repo rate, the increase in the reverse repo rate will make it attractive for banks to lend funds to RBI, leading to an indirect increase in the bank
lending rates for individual corporates.
These benchmark rates are the primary measures for controlling inflation, as RBI will hike rates if inflation shows an increasing trend, reducing consumption demand by making loans for homes, cars, etc., more expensive.
As the rates go up, the availability of credit and demand for goods in the economy decreases, resulting in a gradual lowering of inflation. RBI rate hikes are a symbol of the tightening of the monetary policy. On the contrary,
RBI reducing rates is a signal of dovish or accommodative monetary policy.
