Bank rate is the interest rate charged by the central bank [in India Central bank is the Reserve Bank of India (RBI)] to commercial banks for the loans and advances.In other words, this is the rate at which Reserve Bank of India lends money to financial institutions and banks.If the bank rate is hiked, long term interest rates also tend to move in upward direction.It is because the banks use the fund they borrowed at a lower rate, for lending to individuals and corporates at a higher rate of interest to make profit.
When unemployment of a country is high, lower bank rate is helpful to expand the economy.It will lower the burden of borrowers.When inflation of a country is high, higher bank rates help to control the inflation by controlling the flow of money.
In India the bank rate acts as the penal rate charged on domestic banks for shortfalls in meeting their reserve requirements (That is, cash reserve ratio and statutory liquidity ratio). The bank rate is used as a reference rate for indexation purposes by several organizations.
In United States of America, the bank rate is the federal funds rate.It is controlled by the Federal Open Market Committee (FOMC). FOMC buys and sells securities to regulate money supply.The process of regulation of the economy by the Federal Open Market Committee (FOMC) is called monetary policy.
Increase in bank rates will affect the growth of Industries as the money circulation becomes very low.Hence only in case of higher or hyper inflation the central bank hike bank rates that too only for a short period.
Repo (Repurchase) rate is the rate at which banks borrow funds for short term use from the central bank.Decrease in Repo rate helps banks to get money at a cheaper rate. On the other hand the increase in repo rate makes borrowing expensive.When liquidity crunch occurs in the market central bank increases repo rate.
In case of an inflation, central bank will try to reduce the money supply by increasing the repo Rate. When repo rates are hiked, banks will borrow less amount of money from central bank and thus the amount of money they are lending to the public will decrease.If deflation occurs, central bank will want to inject more money supply and they will reduce the repo rate.
Reverse Repo Rate
Reverse Repo Rate is the exactly opposite to repo rate.It refer to the rate at which the Cental bank [In India Reserve Bank of India (RBI)] borrows excess money from domestic banks (private and public sector banks), when there is too much money flowing in the banking system.
Reverse repo rate helps to control the economic stability of the country.
The defferance between repo and reverse repo is that in repo, the central bank injects liquidity and in reverse repo it absorbs liquidity.
The interest rate paid by the domestic banks for borrowing for their daily fund requirement is called 'Call Rate'. Banks some times need funds on daily basis, for that they borrow from other banks according to their requirements on a regular basis.
Cash reserve Ratio (CRR)
The meaning of CRR is Cash reserve Ratio.The domestic or national banks have to maintain or keep a portion of their deposit with Central Bank.This minimum ratio is known as Cash reserve ratio.It enables Central bank to control the liquidity in the system.It also ensures that a portion of bank deposit is risk free.In case of Inflation, the central bank increases the CRR rate and thus the available amount to banks becomes down.If the central bank decreases the CRR rate the availability of money increases.That is, more money will come on hands of banks.
Statutory Liquidity Ratio (SLR)
SLR means Statutory Liquidity Ratio.The ratio of liquid assets to demand and time liabilities is known as Statutory Liquidity Ratio.Before providing credit to its customers the banks have to maintain or keep a part of its deposits in the form of gold, cash or other government approved securities as a part of SLR requirements.In India SLR is determined and maintained by Reserve Bank of India.With the SLR tuning, RBI can control the inflation through controlling credit growth and money supply.
Tuesday, February 26, 2013