Frequently key terms used  in RBI Policy

Reserve Bank of India(RBI) play very important role in our economy. We often hear about some most frequently used term like repo rate, reverse repo rate, CRR, SLR etc. It decide the key policy rates according to the economic scenario. Recently RBI has cut the repo and reverse repo rate. The key policy or ’signalling’ rates include the bank rate, the repo rate, the reverse repo rate, the cash reserve ratio (CRR) and the statutory liquidity ratio (SLR). These rates are the RBI’s powerful tool to control the inflation and ensure the country’s growth.

These terms we hear very often in each RBI policy and it is very important to know for common person what is the significance of these terms in the economic policy. Today we are going to understand these terms in very easy way.

RBI increases its key policy rates when there is greater volume of money in the economy. It means , when too much money is chasing the same or lesser quantity of goods and services. Conversely when there is liquidity crunch or recession, RBI would lower its key rates to inject more money into the economic system.

Repo Rate

Repo rate, or repurchase rate, is the rate at which RBi lends to bank for short periods. This is done by RBI buying government bonds from bank with an agreement to sell them back at a fixed rate. If the RBI wants to make to make it more expensive for banks to borrow money, it increases the repo rate. Similarly, if it wants to make it cheaper for banks to borrow money , it reduces the repo rate.

Reverse Repo Rate

Reverse repo rate is the rate of interest at which the RBI borrows funds from other banks in the short term.  Like the repo, this is done by selling government bonds to banks with the commitment to buy them back at a future date. The banks use the reverse repo facility to deposit their short-term excess funds with the RBI and earn interest on it. RBI can reduce the liquidity in the banking system by increasing the rate at which it borrows from banks. Hiking the repo and reverse repo rate ends up reducing the liquidity and pushes up interest rates.

Cash Reserve Ratio (CRR)

CRR is the amount of funds that banks have to park with RBI. If RBI decides to increase the CRR, the available amount with banks reduce. CRR serve two purposes: One, it ensures that a portion of bank deposits are always available to meet withdrawl demand, and other, it enables that RBI control liquidity in the system, and thereby, inflation by tying their hands in lending money.

Statutory Liquidity Ratio (SLR)

Apart from keeping a portion of deposits with RBI as cash, banks are also need to maintain a minimum percentage  of deposits with them at the end of every business day, in the form of gold, cash, govt bonds or other approved securities. This minimum percentage is called SLR. In the high growth times, an increase in SLR reduces lendable resources of banks and pushes up interest rates.

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Regards,

Arvind Trivedi

Certified Financial Planner