Central Bank Raises Repo Rate – Should You Be Worried?
A country’s central bank creates a framework for the economy. All lenders and financial institutions follow the rules and guidelines set by the central bank. Every few years, the central bank reviews the economy and analyzes whether or not their goals are being met. These goals are mostly related to keeping inflation under control. If the plan is not on track, they plan and fix to achieve their goal.
In India, the central bank is also known as the Reserve Bank of India (RBI). RBI plans and forecasts banking policies. They recently came into the limelight when they raised repo rates by 25 basis points. This is the second time in 4 years that the RBI has increased the repo rate. Today the rate is 6.50%, which is 50 basis points higher than what it was 4 years ago ie. 6.00%.
What is repo rate?
The repo rate is the rate at which the central bank lends money to commercial banks when they fail to maintain adequate balance sheets. This balance is determined by the central bank (RBI). When a commercial bank cannot maintain such a balance, it can borrow the money from the RBI against interest.
Why did RBI increase repo rate?
RBI hiked interest rate to meet its target of keeping inflation around 4%. By increasing this speed, a chain of events develops. Banks will borrow less money from RBI as the repo rate is high. Therefore, they will be short of funds to lend to the customer. They will borrow the remaining money at a higher interest rate. Therefore, many customers will avoid borrowing by ensuring that demand is reduced. This will curb inflation in the long run.
Should this rate increase be cause for concern?
yes When RBI increases repo rate, commercial banks increase interest rate on various loans like personal loans, home loans etc. This impact is customer facing because as the interest rate increases, the EMI will increase. Yes, if your loan has a floating rate, then the EMI will be revised as per the market conditions and also when the RBI increases the repo rate. Therefore, the debt burden on the customer will now be greater than before. As your debt burden increases, it may be wise to consider partial/full prepayment of your loans.
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