RBI’s Rate Cut Decoded: How Repo Rate Changes Impact Inflation & Growth: Sample Q&A

Why RBI’s Rate Cut Matters
In June 2024, RBI’s Monetary Policy Committee (MPC) slashed the repo rate by 50 basis points to 5.5%—exceeding market expectations. Simultaneously, it reduced the cash reserve ratio (CRR) by 100 bps to 3%, injecting ₹2.5 lakh crore into the banking system. This dual move aims to revive economic growth amid slowing inflation.

Key Monetary Policy Instruments Explained
1. Repo Rate & Reverse Repo Rate
Repo Rate: Interest RBI charges when banks borrow short-term funds. Reducing it (like in 2024) lowers loan rates, spurs spending/investment, and boosts growth.
Reverse Repo Rate: Interest RBI pays banks for parking surplus funds. Raising it discourages lending, curbing inflation.
2. New-Age Tools
Standing Deposit Facility (SDF): Replaced fixed reverse repo in 2022. Acts as the floor rate for overnight uncollateralized deposits.
Marginal Standing Facility (MSF): Emergency overnight borrowing window for banks at 25 bps above repo rate.
3. Liquidity Managers
Liquidity Adjustment Facility (LAF): Daily window for banks to borrow/park funds via repo/reverse repo using G-Secs as collateral.
Open Market Operations (OMOs): RBI buys/sells government securities to adjust long-term liquidity.
4. Reserve Ratios
Cash Reserve Ratio (CRR): Mandatory cash reserves (as % of NDTL) banks hold with RBI.
Statutory Liquidity Ratio (SLR): Reserves in liquid assets (gold, govt bonds).

Flexible Inflation Targeting (FIT): RBI’s North Star
Since 2016, RBI legally targets 4% CPI inflation (±2%) under FIT framework. This five-year mandate (renewed in 2021) anchors policy decisions:
Rate hikes to cool inflation (e.g., during supply shocks).
Rate cuts to stimulate growth (e.g., 2024’s aggressive reductions).
 

5 Sample Q&A for Exam Prep
Q: How does cutting repo rate control economic slowdown?
A: Lowers borrowing costs → boosts business investment & consumer spending → stimulates demand and growth.
Q: Why is MSF called a ‘penalty rate’?
A: Banks use it only during acute liquidity crises, paying 25 bps above repo rate—making costlier emergency borrowing.
Q: How does CRR reduction (like 2024’s 100 bps cut) help banks?
A: Releases locked funds, increasing lendable resources. Example: ₹2.5 lakh crore infusion boosted loan capacity.
Q: What is FIT’s legal basis?
A: Amended RBI Act (2016) mandates 4% CPI inflation targeting, reviewed every 5 years (last renewal: 2021).
Q: How do OMOs fight inflation?
A: RBI sells G-Secs → absorbs excess money from markets → reduces cash flow → lowers demand-driven inflation.