Repo Rate and Reverse Repo Rate are the two instruments of Liquidity Adjustment Facility (LAF) which allows banks to borrow money from the Reserve Bank of India (RBI) through repurchase agreements or to make loans to RBI through reverse repo agreements.
Repo Rate (Repurchase Option Rate)
Repo rate is the rate of interest at which all clients of RBI (Central and State Government, Commercial Banks) can borrow short-term funds from RBI against government securities with a legal agreement to repurchase the securities sold on a given date at a predetermined price.
It is also known as the benchmark interest rate or the key policy rate.
Reverse Repo Rate
The reverse repo rate is the rate at which the RBI borrows funds from commercial banks by giving its government securities to absorb excess liquidity in the banking system.
In other words, it is the rate at which banks in India park their excess funds with RBI for a short period of time. Under the reverse repo operation, RBI has to repurchase those securities the next day or after a few days.
The bank rate is the rate of interest at which RBI provides long-term loans to commercial banks without any approved securities.
It is also the standard rate at which the RBI will buy or discount bills of exchange and other such commercial instruments. So when RBI increases the bank rate, commercial banks also increase their lending rates.