repo rate

Due to low rates of interest, home loans like Bajaj housing finance home loans today are easily accessible for most people. However, did you know just a couple of years ago home loans were costlier? Have you ever wondered what causes these fluctuations in the home loan interest rate? The current REPO rate and the SLR or the Statutory Liquidity Ratio are two tools that help the government in planning financial and monetary policies. The changes in these two rates affect the rate at which commercial banks lend money to consumers.

REPO Rate Meaning

When commercial banks needs funds, they turn to the central bank for help. Here RBI or Reserve Bank of India is the central bank. The RBI lends the bank the required fund at an interest rate called the REPO rate or repurchase rate. Thus, the REPO rate means the rate at which the central bank of any particular country lends money to commercial banks when faced with a shortfall of funds. 

On the other hand, a reverse REPO rate is a rate offered by RBI to commercial banks for them to keep their excess funds with the central bank. RBI borrows money from commercial banks and pays interest at a rate called the reverse repo rate. A reverse repo rate is also a tool used by the RBI, to maintain desired inflation levels, by way of absorbing liquidity from the system. An increase in this encourages banks to lend more money to the RBI, which results in the removal of excess liquidity from the system. Banks, thus, have lesser money to lend and loans become costlier.

Key Facts About Repo Rate in India

  • The RBI fixes and monitors the REPO rate
  • It helps to control inflation
  • Banks make changes in the savings account and fixed deposit returns, based on the changes in the REPO rate
  • Changes in REPO rate affect the cost of funds for commercial banks, thus affecting their lending capacity

Increase in REPO Rate

An increase in the REPO rate means commercial banks must pay more interest for the money they borrow from RBI. This leaves them with lesser funds. This indirectly affects the lending rates of the banks. 

Thus, we can say an increase in this rate leads to:

  • Lesser funds with commercial banks
  • Loans become costlier
  • Decreased consumer buying capacity
  • Fall in demand for products
  • Decrease in inflation rate as both these rates are inversely related

What is SLR?

The Statutory Liquidity Ratio or SLR rate is the minimum percentage of deposits that any commercial bank must maintain in the form of liquid cash, gold, or other securities. It is essentially the reserve requirement that commercial banks are expected to maintain before offering credit to their customers. The SLR just like the REPO rate is often used by the government to regulate inflation and help economic growth. If the bank fails to maintain the decided SLR, it is liable to pay a fine to the Reserve Bank of India. So, we can say that SLR also plays an important role in fixing the minimum rate offered by the bank while lending money to its customers. This rate is also called the base rate.

Repo Rate and How It Impact Home Loans

Banks used internal lending benchmarks like the following to decide home loan rates:

  • The MCLR or marginal cost of funds-based lending rate 
  • The base rate
  • Prime lending rate 

A few years ago, it was noticed that only an increase in REPO rate was implemented immediately while the benefits of reduced rates took ages to be passed on to the customers by the banks. So, the RBI, in 2018, directed all banks to use an external lending benchmark so that the borrowers could reap the benefits of policy transformation quickly. Following this decision, the banks switched to the REPO rate-linked lending rule in October 2019 and now offer home loans that are linked to the RBI’s REPO rate.

Some benefits of REPO rate-linked home loans:

  • Transmission in REPO rate changes is quicker
  • Such loans are comparatively transparent and clear
  • Gives more certainty to the borrowers, in anticipating their loan interest rates

How Does Repo Rate Impact Your EMI

If you want to apply for a home loan, use a home loan EMI calculator to know the approximate EMI amount for a fixed home loan tenor. After taking into account your home loan eligibility criteria and the other factors, this tool gives you an estimated EMI amount for the home loan. But, if the economy is facing inflation and the government wants to make the situation better, it can increase the REPO rate, or the SLR to bring it down. This indirectly affects the lending rate of banks and the interest rates change with the base rate. So, an increased REPO rate means an increase in the EMI. However, as a borrower, the rise in interest rate can be negated by increasing the loan tenor, while keeping the EMI the same. The financial institution always informs its customers about the reset in EMI or tenor of the loan. 

Current Repo Rate

For the last couple of years, the REPO rate was more or less constant at 4%. The Reserve Bank of India, after the June bi-monthly meeting, increased this rate by 50 basis points to 4.90% on June 8, 2022. After August 2018, the repo rate was raised further by 40 basis points to 4.40% on May 4, 2022, the first time, marking the start of the financial year 2022-2023 before the last increase in June.

Final Words

Yes, an increase or decrease in the REPO rate increases or decreases the home loan interest rates, respectively. When the REPO rate increase, banks are bound to pay higher interest rates to the RBI, which in turn, makes them increase the interest rates on the loan products they offer to their customers. The high-interest rates dissuade customers from taking credit or loans from banks.

By admin

Prepare your CIMA's exams easily with the help of PrepAcademia Exam Syllabus and pass your exams in 1st attempt. PrepAcademia Provide the exam practice kit pdf questions and Exam Preparation tips of CIMA, GMAT, GED, LNAT and SAT exams. Get Past Papers from www.prepacademia.com

Leave a Reply

Your email address will not be published.