7/2/2016
CorporateInklingsTheworkingofRBI,simplyput!
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TheworkingofRBI,simplyput!
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20Jun2016at09:29am
ResultAnalysisThereisaverysimplebutbeautifullyputdialoguebetweenafatherandason,explaininginverysimpleterms,the
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Pathshala
Didyouknowthat?
complextermsofRBIreporates,CRRandtheSLR.
Haveareadandsurely,itwillmakeitveryeasyunderstandthebroadworkingofRBI.
Son:Sometimeago,IhadheardthattheRBIgovernorreducedRepoRateby50basispointsandeveryoneissaying
thatthisisgoodforthemarket.LoanEMImayalsocomedown.Whatisthisratecutmeansactually?Iwanttounderstandthis.
Dad:Tounderstandthisyoufirstneedtoknow,howdoesabankfunction.
Son:Why?
Dad:Becausealltheseareinterrelated.Tellmewhatdoesabankdo?
Son:Banktakesmoneyfromdepositorsandgivesloantoearninterest.Thatwaytheykeepeveryonehappyandmakeaprofitalso.
Dad:Correct,buttherearemoretoit.Letmeexplainthisinaverysimplisticway.Bankneedsmoney.Bankcangetmoneyfrom
depositorslikeyouandmeandalsofromRBI.ButbankalsoneedstopaycertaininteresttousandalsotoRBI.
Son:Ok.
Dad:Letustrytounderstandfirstwhathappenswhenwedeposit,say,Rs.100withabank.
Son:Iknowthat.BankgivesthatRs.100tosomeonewhoneedsaloan.
Dad:No,itisnotthatsimple.Remember,thoughbankcanearninterestbygivingawayloans,butitisalsoveryrisky.Therearemany
casesofloandefaults.Thiswaybankscanputallourmoneyintohighriskareas.Ithastobeprotected.
Son:How?
Dad:Ok,RBIhasmadeitmandatorythatuponreceiving,say,Rs.100banksfirsthavetodepositRs.4withRBI.RBIkeepsthisRs.4
initscurrenta/candhencebanksdonotreceiveanyinterestonthismoney.ThisisknownasCashReserveRatioorCRR,whichis
currentlyat4%.
Son:Hmmm,then?
Dad:RBIhasalsomadeitmandatorythatuponreceiving,say,Rs.100banksneedtocompulsorilybuycentralandstategovt.
securitiesofRs.21.50.Ofcoursebankswillearnsomeinterestincomehere.ThisisknownasStatutoryLiquidityRatio(SLR),whichis
currentlyat21.50%.
Son:Ok,soyoumeantosaythatuponreceivingRs.100,bankscanspendonlyRs.74.50atitsownwill.
Dad:Correct.100(4+21.50)=10025.50=74.50
Son:ButyouweresayingthatbankscanalsoborrowfromRBI.WhatinterestbankspaytoRBI?
Dad:Before30thSeptember,bankswerepaying8.25%interesttoRBIwhenitborrowsmoneyfromRBI.Nowthisratehasbeenreduced
by50basispoints.SobanksnowneedtopayinteresttoRBI,ifitborrowsfromRBI,attherateof7.75%.ThisisknownasRepoRate.
Son:CanfixeddepositratebeaffectedbyreductionofRepoRate?
Dad:Ofcourse.IfbanksgetmoneyfromRBI@7.75%,whywillbankspayhigherinteresttoyouandme?OneyearFDrateisalready
revisedbymanybanksanditisequaltoorverycloseto7.75%.
Son:Butasnowbanksaregettingmoneyatacheaperrate,thentheyshouldreducetheloaninterestratei.e.passingonthebenefitsit
receives.
Dad:Correct.Theyshould.Andonthathopemarketischeering.Ifcompaniesgetloanatacheaperrate,theywilllikelytoexpandtheir
businesses.Thatwillcreatemorejobs,moreincomeandboosttheeconomy.
Son:Howisinflationlinkedtothis?
Dad:See,whenloanbecomescheaper,peopletendstoborrowmore.Thatmeanspeoplewillhavemoremoneytospend.Thiswill
increasethedemandforgoods,andifsupplydoesnotincreasetomatchthisdemand,thenpriceswillincrease.
Son:Sothereisachance,thatinflationmayrisealso?
Dad:Well,yes.Butinflationdependsonmanyotherfactorsaswell,likeproduction(industrialandagricultural),manufacturing,export
import,foreigncurrencymovementetc.Soinflationmayincreaseormaynot.
Son:Onelastquestion.Likewedepositourmoneywithbanks,canbanksalsodeposittheirmoneywithsomeone?
Dad:Yes,theycandepositwithRBIandearninteresttoo.Thisinterestistypically1%lessthanthereporate.Thisrateisknownas
ReverseRepoRate.
Son:Great!SonowIunderstandCRR,SLR,RepoRate,ReverseRepoRateandtheirimpactondepositrate,loaninterestrateandon
inflation.
https://www.sptulsian.com/article/88647/theworkingofrbisimplyput
1/2
7/2/2016
inflation.
CorporateInklingsTheworkingofRBI,simplyput!
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satishchandra
(Guest)
24Jun2016at01:33
pm
Amustreadforall
Anil(Guest)
23Jun2016at01:09
am
Verynicearticle.
madhav007
20Jun2016at08:05
pm
Veryniceandsimpletounderstand.
snharish
20Jun2016at05:42
pm
whatalovelypiece!
mangeshwar
20Jun2016at02:07
pm
Explainedclearlyinverysimplelanguage.Ty.
amitnaresh(Guest)
20Jun2016at12:38
pm
Indeedanexcellentexplanation.
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newbiez
20Jun2016at11:58
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Superb.Thanksforthisexcellentarticle.
modirajiv
20Jun2016at11:52
am
thanksforthearticle.shareditwithmyyoungson.
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