Overview of Bank Rates

A bank rate is the interest rate a central bank charges to commercial banks and other financial institutions. The central bank controls the money supply by modifying the bank rate. It is important to distinguish the bank rate from other interest rates charged by the central bank.

Function

Each country generally has a central bank, also known as the federal bank, which lends money to financial institutions. A higher interest rate reduces the supply of money to the national economy, and a lower interest rate increases the money supply. The central bank typically establishes its bank rate at the beginning of each financial quarter.

Effects

The bank rate allows the central bank to control the inflation rate and stabilize the exchange rate between that country's currency and the currency of other countries. A change in the bank rate has a significant effect on all aspects of the country's economy. An increase in the bank rate tends to reduce prices in the stock market and vice versa. The prime interest rate loans for consumers is also closely tied to the bank rate.

Repo Rate

The repurchase rate, or repo rate, is the interest rate that the central bank charges other banks for short-term loans. This occurs if the borrowing bank has a shortage of funds, which generally means a shortage of liquid assets in the financial market. The repo rate is typically higher than the bank rate. The reverse repo rate is the interest rate at which the central bank borrows money from other banks.