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Interest rates and RBI: Your guide to understanding this complicated relationship

Vishal Manve | Updated on: 1 December 2015, 13:16 IST

The Reserve Bank of India (RBI) has decided to keep the benchmark repo rate unchanged at 6.75 per cent, after lowering it by 50 basis points in September 2015. It has also left CRR and SLR unchanged at 4 percent and 21.5 per cent, respectively. RBI governor Raghuram Rajan said: "We will use the space for further accomodation, while keeping an eye on inflation."

The RBI has also kept economic growth projection unchanged at 7.4 percent for FY16.

However, the central bank has cautioned that the upward rise in CPI inflation, ex-food and fuel calls for vigilance. "While oil prices, barring geopolitical shocks, are expected to remain benign for a few quarters more, the uptick of CPI inflation excluding food and fuel for two months in succession warrants vigilance," the RBI statement added.

Repo rate (repurchase rate): It is the rate of interest that banks pay when they borrow money from the Reserve Bank of India (RBI) to meet their short-term fund requirements. It is also called repurchase rate because when banks borrow money from the financial institution, they use securities with the central bank as collateral. When the money is paid to RBI, the collateral is returned to the banks.

Reverse repo rate: This is the rate of interest that banks usually get when they keep their extra funds with RBI (Reserve Bank of India). Repo rate is always higher than the reverse repo rate. At present, the repo rate is 6.75 per cent per annum and the reverse repo rate is 5.75 per cent.

By controlling these rates, the RBI controls the rate of interest in the economy.

Cash reserve ratio (CRR): Cash Reserve Ratio is a specified minimum fraction of total deposits of customers, which commercial banks have to hold as reserves with the central bank (RBI).

It gives more control to the central bank over money supply. Commercial banks have to hold only some specified part of the total deposits as reserves and it is called fractional reserve (FR).

Consumer Price Index: CPI is a comprehensive measure used for estimating price changes in a collective of goods and services which is representative of consumption expenditure. CPI is used to measure inflation and the percentage change in this index over a period of time gives the amount of inflation over that specific period.

Inflation: It is the percentage change in the value of the Wholesale Price Index (WPI) on a year-on year basis. Inflation consumes our net worth and investments value and also impacts the growth of the nation's economy, hence it is an important terminology that you may come across time and again. Inflation is caused by a mismatch of demand and supply chain and mostly demand overshooting supply. During periods of rapid growth and structural change, inflation increases.

First published: 1 December 2015, 13:16 IST
Vishal Manve @VishalManve12

Vishal Manve handles business and international relations beat for Catch. Previously, he has worked with Scroll.in and Daily News and Analysis and has interned with BBC World News and Gateway House council on global relations. Currently, he is pursuing Law from Government Law College, Mumbai. In his free time, Vishal researches on various aspects of foreign policy, human rights and feminism and looks for people who will share their stories with him.