Repo Rate: How RBI Uses This Monetary Policy Tool To Regulate Inflation

The Reserve Bank of India’s (RBI) Monetary Policy Committee (MPC) has decided to keep the key repo rate unchanged at 6.5% for the tenth consecutive meeting. RBI Governor Shaktikanta Das indicated that five out of the six committee members supported this decision. He explained that after assessing the macroeconomic conditions and future outlook, the MPC reached a consensus to maintain the policy rate at 6.5%.

This decision marks the tenth consecutive time that the six-member MPC has opted to keep the key policy rates stable. The standing deposit facility (SDF) rate remains at 6.25%, while both the marginal standing facility (MCF) and the bank rate are held steady at 6.75%.

For the second quarter of the current fiscal year, Consumer Price Index (CPI) inflation is anticipated to be 4.1%. It is expected to increase to 4.8% in the third quarter before declining to 4.2% in the fourth quarter. Looking further ahead, CPI inflation for the first quarter of FY26 is projected at 4.3%.

What is repo rate?

The repo rate is the interest rate at which a country’s central bank lends money to commercial banks during cash shortages. In India, the Reserve Bank of India (RBI) typically provides loans to banks against government securities for short durations.

The term “repo” is short for “repurchase agreement,” which describes a short-term secured loan where one party sells securities to another with the agreement to repurchase them at a higher price. The securities involved are known as collateral.

India introduced the repo rate in November 1997, and its value is determined by the Monetary Policy Committee. From 2000 to 2022, the average repo rate in India was 5.58%, with the rate standing at 4% as of April 2020.

What is inflation?

Inflation refers to the rise in prices over a specific period and serves as a broad measure of overall price increases or the rising cost of living in a country. It generally occurs when prices increase, leading to a decrease in money’s purchasing power.

Rising production costs for raw materials and wages can also contribute to inflation, driving up prices. Additionally, when demand for goods and services surges, consumers may be willing to pay more, further contributing to inflation.

How does the repo rate influence inflation?

The repo rate is a key tool in India’s monetary policy, influencing the nation’s money supply and inflation. Monetary authorities use the repo rate to manage inflation levels. In times of high inflation, the central bank aims to reduce the money supply by increasing the rate.

This discourages banks from borrowing from the central bank, resulting in higher borrowing costs for banks, which in turn raises interest rates for consumers. Consequently, this reduces the overall money supply in the economy, helping to curb inflation.

When lending rates rise, consumer demand for money typically declines, leading to reduced spending. The repo rate can thus regulate a country’s money supply, inflation, and liquidity. A decrease in the repo rate signals lower borrowing costs for the public. When the central bank lowers the repo rate, it anticipates that banks will reduce their interest rates accordingly, impacting consumer rates as well. The bank interest rate will adjust in response to changes in the repo rate.

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