Define Reverse Repo Rate. Discuss briefly, how this instrument helps in controlling credit creation by commercial banks

Question :Define Reverse Repo Rate. Discuss briefly, how this instrument helps in controlling credit creation by commercial banks

The correct answer is -Reverse Repo Rate refers to the interest rate at which the central bank of a country borrows money from commercial banks. It is an instrument of monetary policy used by the central bank to regulate the money supply in the economy.

When the central bank increases the reverse repo rate, it means that commercial banks get higher returns for their excess funds invested with the central bank. As a result, commercial banks tend to reduce lending to businesses and individuals, as they prefer to invest their funds with the central bank to earn higher returns. This results in a reduction in the money supply in the economy, which helps in controlling inflation.

On the other hand, when the central bank reduces the reverse repo rate, commercial banks get lower returns on their excess funds invested with the central bank. This encourages commercial banks to lend more to businesses and individuals, as they can earn higher returns from such lending activities. This results in an increase in the money supply in the economy, which can help in boosting economic growth.

Thus, the reverse repo rate helps the central bank in controlling credit creation by commercial banks, which in turn helps in regulating the money supply in the economy. By using this instrument effectively, the central bank can achieve its monetary policy objectives such as controlling inflation, promoting economic growth, and maintaining financial stability.