What is repo rate?
The repo rate is the rate at which the Reserve Bank of India (RBI) lends money to commercial banks and financial institutions. It plays a crucial role in maintaining liquidity, controlling inflation, and ensuring overall economic stability.
When the RBI raises the repo rate, borrowing becomes more expensive for banks, leading to higher loan and deposit rates for customers. Conversely, a reduction in the repo rate makes borrowing cheaper, resulting in lower lending and deposit interest rates.
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How repo rate works
The repo rate is one of RBI’s primary monetary policy tools used to control inflation and manage the economy’s money supply.
When inflation rises due to increased demand, the RBI raises the repo rate to discourage excessive borrowing. Higher borrowing costs reduce money flow in the economy, stabilizing prices. On the other hand, when growth slows down, the RBI may reduce the repo rate to encourage spending and investment.
For instance, during economic slowdowns or crises, a lower repo rate allows for easier access to liquidity, helping businesses and consumers borrow and spend more freely.
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How repo rate impacts FD rates
The relationship between repo rate and FD rates is direct and clear — when the repo rate rises, financial institutions often increase FD interest rates; when it falls, FD rates tend to decline.
In times of high repo rates, NBFCs and banks offer more attractive FD rates to attract deposits. For investors, this creates an excellent opportunity to lock in higher rates for a fixed tenure.
For example, during the pandemic, RBI reduced the repo rate to stimulate growth, leading to lower FD rates. However, as inflationary pressures increased, the RBI raised the repo rate, resulting in a noticeable improvement in FD returns.
If you have surplus funds, this is a strategic time to invest in short- to medium-term FDs and lock in higher interest rates before any future rate corrections.
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The emergence of Repo-Linked Fixed Deposits
To align with changing market conditions, many banks have introduced repo-linked fixed deposits, where the interest rate on your FD adjusts in tandem with changes in the repo rate.
This allows investors to benefit from an increase in the repo rate — whenever the RBI raises rates, the FD returns also rise proportionately. However, this feature is mostly available with select banks and may not always guarantee consistent earnings during rate cuts.
For investors who prefer stability, traditional FDs with fixed returns remain a safer choice, ensuring predictable growth regardless of economic fluctuations.
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