In the past, there used to be a shortage of money in India. Whenever this happened, the Reserve Bank of India (RBI) would meet with commercial banks and either lend or borrow money. However, this model of trade isn’t actively used by them anymore.
This is because they have interest, they pay to bank lenders to keep their money safe and an interest they earn if they borrow it back from the banks. This process is called the repo rate, and its primary function is to control inflation in the country. You can apply for home loan at Kotak Bank at low-interest rates.
Understanding Repo Rate?
Suppose there is a crisis, and monetary authorities are afraid that commercial banks might fall short of funds. In that case, they can use the repo rate to control inflation. Businesses need to stay up to date with the repo rate. Otherwise, you could get backfired by inflation, as it will also impact your bottom line.
How Does It Work?
The repo rate is one of the most critical tools the central bank has to ensure that banks lend money to those who need it and don’t unnecessarily. If the economy grows and more people are working and buying things, banks will have more business.
They won’t want to be sitting on so much cash, which earns them very little interest. They will borrow from each other or the central bank at a low-interest rate (the repo rate) to make better investment returns.
Why Are Repo Rates Changed?
Repo rates are the interest rates at which a central bank (the Reserve Bank of India in India’s case) lends money and borrows from commercial banks. Repo rates are one of the key interest rates in a country’s financial market.
These are changed when the central bank feels that economic growth may be compromised and there may be a need for banks to have more money, and vice versa.
What is Reverse Repo Rate?
The reverse repo rate is the interest rate banks take from the Reserve Bank of India (RBI) when they deposit money into the central bank. This rate is important because it shows how much RBI will pay if you want to borrow money from them.
Regardless of what words you use to describe a loan, at its root, a mortgage, business loan, and car loan are all an agreement where you borrow money in exchange for giving the bank something of value like a house or car title, for example. In that context, when analysing the reverse repo rate, which concerns borrowing money from RBI, it’s helpful to conceptualise things from their perspective and think about what they need to become okay with agreeing to lend you money.
Impact of Repo Rate on Home Loans:
When the RBI increases or decreases the repo rate, it directly impacts housing loan interest rate in India. If the RBI raises the repo rate, banks will typically raise their lending rates, making home loans more expensive. Conversely, suppose the RBI lowers the repo rate. In that case, banks will also reduce their lending rates, making home loans cheaper.
The repo rate is just one factor determining home loan interest rates in India, but it is crucial. Other factors include the prime lending rate, the rate banks charge their best customers, and the base rate, which is the minimum rate banks can charge for a loan.
Impact of Repo Rate on EMIs:
When the RBI increases or decreases the repo rate, it directly impacts the Equated Monthly Instalment (EMI) borrowers must pay on their loans. A higher repo rate means banks will have to pay a higher interest rate on their overnight borrowings from the RBI. This, in turn, will lead to higher housing loan interest rates for borrowers, resulting in higher EMIs. Conversely, a lower repo rate will lead to lower lending rates and EMIs for borrowers.
The interest rate that is effective if an individual takes a home loan usually is the one that is applied to the loan at the beginning itself and remains unchanged at any point of time during the tenure of the loan. However, if the borrower has opted for a floating rate of interest, they will have to comply with the rules that the bank gives out, and the interest rate can change at any point in time.