1. Bank rate:

• Bank rate is the rate of interest which Reserve Bank of India charges on the loans and advances that it gives to the commercial banks for long term.
• At times, the commercial banks have shortage of funds and due to this reason, they borrow money which has to be repaid back with interest within the stipulated time period.
• If the bank rate is increased, commercial banks will borrow less money as it is expensive to borrow. Also, they will offer less amount of loan that too at higher rate of interest to their customers. The customers will then not be willing to take loans. Hence demand of goods and services will come down and inflation will be controlled.
• Thus, bank rate acts as a quantitative measure to control inflation in the economy.

2. Repo rate and reverse repo rate:

• RBI has stopped using bank rate as an instrument to regulate money supply. It now uses repo rate and reverse repo rate.
• When banks need money they approach RBI. The rate at which banks borrow money from the RBI by selling their surplus government securities to RBI is known as “Repo Rate.”
• Banks enter into an agreement with the RBI to repurchase the same pledged government securities at a future date at a pre-determined price.
• ‘Repo rate’ is short form of ‘Repurchase Rate’. Generally, these loans are for short durations up to 2 weeks. This means a bank may even take up loan for as low as 1 day.
• Thus, we can say that the Banks sell government securities to RBI in order to raise money for a very short term with a condition to repurchase them at some discount. Such a discounting rate is repurchase rate/repo rate.

Repo rate as a measure to control inflation:

• In case of inflation in the economy the RBI increases repo rate.
• Increasing repo rate discourages commercial banks to take loans as they would have to pay more interest to the RBI.
• Increase in repo rate forces commercial banks to increase interest rate of the loans it provides to the customer. Customers then borrow less money due to increased rates.
• This in turn reduces the purchasing power of the people thereby, reducing supply of money in the economy. Thus, increase in repo rate helps to curb inflation in the economy

Reverse repo rate:

• Reverse Repo rate is a short term borrowing rate at which RBI borrows money from commercial banks.
• Here, the RBI sells certain government securities to the commercial banks with an agreement of purchasing them back at a discounted rate at the end of short term period.
• RBI borrows money from commercial banks in two conditions:
  1. when they require additional funds and
  2. when they feel, there is too much money floating in the economy.
• Increase in reverse repo rate leads to increase in the incentives or interest that the commercial banks receive from RBI.
• Thus, the commercial banks will prefer giving loan to RBI instead of people. This will in turn reduce the supply of money in the market and thus, help in controlling inflation in the economy.
• It is a vice versa situation if the reverse repo rate is reduced i.e. it helps in controlling the deflation.