What is Repo Rate - Definition of Repo Rate

The Reserve Bank of India (RBI) decides the repo rate, which in turn, determines your home loan interest

For the eighth time in a row, the Reserve Bank of India (RBI) chose to keep the repo rate at 4% on October 8, 2021. What would that entail for a potential homebuyer? When the RBI changes the repo rate for a home loan, home buyers are advised that their borrowing costs would rise or fall because of the adjustment.

Because the repo rate has an impact on your finances, it is critical to understand and know how it affects your home loan debt. It is also important to understand how the reverse repo rate operates for the same. Read on to understand the home loan repo rate and its repercussions.

What is the repo rate?

Banks must pay interest for the money they borrow from the RBI, just as borrowers must pay interest to obtain credit from banks. This type of interest is called the repo rate. Repo is an acronym for 'repurchasing option' or 'repurchase agreement.' Listed commercial banks furnish the RBI with securities like Treasury bills or gold in exchange for overnight credit in the event of a shortfall.

It is important to note that banks require funds to lend. They can borrow money from central banks in addition to receiving deposits from the general population. It is made possible by repurchasing contracts.

Current repo and reverse rate for a home loan
 

The RBI raises the repo rate in times of high inflation to dissuade banks from borrowing. As a result, the economy's liquidity is reduced, and the rising inflation is tamed. In the event of lowering inflation, the same strategy is reversed. In this scenario, the repo rate is lowered to encourage banks to borrow more, increasing market supply and new investments.

What is the reverse repo rate?

The interest that banks owe the RBI to provide credit to the banking regulator is known as the reverse repo rate. The RBI also uses the reverse repo rate to absorb liquidity from the system to sustain desirable inflation levels. The RBI urges banks to loan money to the RBI by raising interest rates. It results in the economy's surplus liquidity being depleted. As a result, banks do not have a lot of money to lend.

The effect of repo rate on home loans

The cost of borrowing for banks decreases as the RBI reduces the repo rate. Banks pass on this benefit to customers. That is exactly what happened in March 2020, as the RBI lowered the repo rate to 4%, a 200-basis-point fall over the past year.

Banks also reduced home loan interest rates because of the low repo rate offered by the RBI. By offering the lowest home loan interest rates, banks attempt to stabilise the home loan market.

Similarly, when the repo rate rises, loans for customers become more expensive due to the increase in interest rates. This is because commercial banks must purchase funds from the central bank at higher prices, forcing them to raise their lending rates.

These are the basics you should know when taking a home loan. If you wish to know how much you would end up paying as interest owing to the repo rate, you could use a home loan calculator. You can use IDFC FIRST Bank’s home loan calculator to arrive at the right results. Also, if you are looking for a home loan, look no further than IDFC FIRST Bank. Download the IDFC FIRST Bank’s mobile banking app and get started today!

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