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RBI, Repo Rate Changes & Monetary Policy Transmission

  May 26, 2020

RBI, Repo Rate Changes & Monetary Policy Transmission

What is repo rate?

It is the rate at which commercial banks borrow from the RBI

What is monetary policy transmission ?

When RBI changes rates and so on, if the same is reflected in the policies of the banks, it is called transmission. 

Is the change in the repo rate made by the RBI being passed on by the banks?

Curbing inflation or stimulating growth by raising or lowering the cost of money is the key objective of monetary policy. But for a few years now, hikes or reductions in the repo rate by India’s Monetary Policy Committee have had only a marginal impact on the economy because of the limited transmission of these cuts by banks.

Given that banks source only about 1 per cent of their funds from RBI’s repo window and the bulk from deposits from the public, they complain that they cannot slash their lending rates unless their deposit rates moderate.

Is there any positive change lately?

When the Reserve Bank of India cut the repo rate by 0.35%( 35 basis points), some banks adjusted their deposit and lending rates in line with it. The background is the following:

Starting from May 2019, India’s largest bank SBI announced that it was linking the interest rate on its savings bank accounts as well as short-term loans to RBI’s repo rate.

It has resulted in quicker transmission of RBI’s rate cuts to SBI’s depositors and borrowers in the three months since. SBI is free to charge a spread over this floor rate to individual borrowers.

Five other banks — Syndicate Bank, Union Bank, Indian Bank, Bank of India and Allahabad Bank — have now announced plans to roll out their own versions of repo-linked rates.