Reserve Bank of India (RBI), the central bank, one of its primary functions is to control the supply as well as the cost of credit. Which means how much money is available for the industry or the economy and what is the price that the economy has to pay to borrow that money which is nothing but liquidity and interest rates.
So, RBI has a role to play to control these two things because eventually these two have an impact on the inflation and growth in the economy. For this, RBI has got some tools available in their hands and these tools are maintaining certain basic ratios or maintaining certain rates.
Here's an understanding of the rates and their impact:
Cash Reserve Ratio (CRR)
It is the percentage of cash deposits that banks need to keep with the Reserve Bank of India on a fortnightly basis. Presently the CRR is 4% that is, for every Rs 100 deposited in the bank; bank will need to deposit Rs 4 with RBI. So It has Rs 96 to lend.
How it impacts you: Increasing the CRR also means banks have lesser money to lend. In the absence of enough liquidity in the financial system, banks have to increase their lending rates to decrease the demand for money. On the other hand, a cut in CRR infuses more liquidity in the market and banks are pressurized to lend these funds. The lending interest rates to increase the demand for money.
Statutory Liquidity Ratio (SLR)
Apart from CRR, banks have to invest certain percentage of their deposits in specified financial securities like Central Government or State Government securities. Unlike CRR, banks earn some amount on it.
How it impacts you: Though requirement for higher reserve make banks relatively safe (as a certain portion of their deposits are always redeemable) but restrict their capacity to lend simultaneously. As a result, the lending rates have to be increased by the banks to stem the demand.
Repo rate
It is the rate at which banks borrow money from the RBI against the pledge of government securities whenever the banks are in need of funds to meet their day-to-day obligations.
How it impact you: A higher repo rate increases the cost of funds by the banks. Besides liquidity with the banks, the lending rates on retail loans are also a function of the cost of funds of the banks. When the funds are raised with high cost by the banks, they are passed on to the customers in the form of high interest rates.
Reverse Repo Rate?
Reverse repo rate is the rate of interest offered by RBI on loan taken by it for a short period from the banks.
How it impacts you: In case the rate is high, it results in tightening of credit for borrowers as banks make more money in interest payments when they make loans to the central bank at higher rate than to retail borrowers.
So, RBI has a role to play to control these two things because eventually these two have an impact on the inflation and growth in the economy. For this, RBI has got some tools available in their hands and these tools are maintaining certain basic ratios or maintaining certain rates.
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| What is Repo rate, CRR, SLR How it Impacts Your Home loan Rates |
Here's an understanding of the rates and their impact:
Cash Reserve Ratio (CRR)
It is the percentage of cash deposits that banks need to keep with the Reserve Bank of India on a fortnightly basis. Presently the CRR is 4% that is, for every Rs 100 deposited in the bank; bank will need to deposit Rs 4 with RBI. So It has Rs 96 to lend.
How it impacts you: Increasing the CRR also means banks have lesser money to lend. In the absence of enough liquidity in the financial system, banks have to increase their lending rates to decrease the demand for money. On the other hand, a cut in CRR infuses more liquidity in the market and banks are pressurized to lend these funds. The lending interest rates to increase the demand for money.
Statutory Liquidity Ratio (SLR)
Apart from CRR, banks have to invest certain percentage of their deposits in specified financial securities like Central Government or State Government securities. Unlike CRR, banks earn some amount on it.
How it impacts you: Though requirement for higher reserve make banks relatively safe (as a certain portion of their deposits are always redeemable) but restrict their capacity to lend simultaneously. As a result, the lending rates have to be increased by the banks to stem the demand.
Repo rate
It is the rate at which banks borrow money from the RBI against the pledge of government securities whenever the banks are in need of funds to meet their day-to-day obligations.
How it impact you: A higher repo rate increases the cost of funds by the banks. Besides liquidity with the banks, the lending rates on retail loans are also a function of the cost of funds of the banks. When the funds are raised with high cost by the banks, they are passed on to the customers in the form of high interest rates.
Reverse Repo Rate?
Reverse repo rate is the rate of interest offered by RBI on loan taken by it for a short period from the banks.
How it impacts you: In case the rate is high, it results in tightening of credit for borrowers as banks make more money in interest payments when they make loans to the central bank at higher rate than to retail borrowers.
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