1) CRR:
Banks have to park a portion of their deposits with the Reserve Bank. They do so by buying government securities from the RBI. How much depends on the Cash Reserve Ratio or CRR. This acts as safety in times of crises.
However, the RBI regularly changes the CRR to regulate liquidity levels in the system. Higher the CRR, lower the liquidity in the system. With lesser money in their pockets, banks can only lend so much. This helps curb demand, and thereby puts downward pressure on inflation. The RBI has kept CRR unchanged at 4% in the mid-quarter policy review.
2) Minimum CRR Requirement:
Banks’ CRR funds are calculated on a fortnight basis. On a daily basis, though, banks are allowed not follow this limit. This gives banks more flexibility to use its money. However, even this minimum level is regulated.
The RBI had earlier hiked the daily requirement to 99% from 70% after the rupee touched new lows in July. With the rupee now appreciating marginally, the RBI has now eased the rules. Banks now have to park 95% of the total CRR on a daily basis.
3) Repo Rate:
Banks borrow from the central bank on a daily basis under the liquidity adjustment facility (LAF). These are basically an agreement that the RBI will lend money in exchange for government securities, which the bank will buy back at a later date.
The rate at which RBI lends under this window is called repossession or repo rate. This is the benchmark lending rate. Banks use this rate while determining the rate at which they lend to individuals or companies. The RBI changes the repo rate to control money supply. By making borrowing costly, it curbs liquidity. In the September mid-quarter policy, the central bank hiked repo rate by 0.25% to 7.5% to control inflation, which recently rose to a six-month high.
4) MSF Rate:
The RBI has capped the amount banks can borrow under the LAF which is explained above. In case of an emergency, if banks need more funds, they utilise a special window called the Marginal Standing Facility or MSF. Under this, the RBI lends at a steeper rate than the repo rate. This means it is more costly to borrow under the MSF window.
When it was introduced in 2011-12, it was pegged a percent or 100 basis points higher than the repo rate. It has now been reduced by 0.75% to 9.5% from 10.25%. This reduces the burden of interest on banks due to the increase in the repo rate. Typically, when RBI hikes repo rates, banks hike their lending rate to us. This move by RBI would mean banks would not be in a hurry to raise interest rates on home loans or car loans.
5) Bank Rate:
It is the rate at which the RBI lends to banks and financial institutions. This is the minimum lending rate, and banks cannot lend to its customers at a lower rate. Earlier, it was an independent rate. Now, it has been linked to the repo.
This means, any hike in repo rate will cause a corresponding hike in the bank rate. This is the reason why any increase in the repo rate affects the common man as it means loans will become costlier. After the mid-quarter policy review, bank rate now stands at 9.5%.
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