4.35 Repo and Reverse Repo:
Repo or repurchase agreement is a means of short-term borrowing. In a repo transaction. RBI repurchases government securities from banks – primarily depending on the level of money supply it decides to maintain in the country’s monetary system.
Repo rate is the discount rate at which banks borrow from RBI.
Reduction in repo rate will help banks to get money at a cheaper rate, while increase in repo rate will make bank borrowings from RBI more expensive.
Reverse repo is the exact opposite of repo. In a reverse repo transaction, banks purchase government securities from RBI and lend money to the banking regulator, thus earning interest. Reverse repo rate is the rate at which RBI borrows money from banks. Since the banks are lending to RBI, their investment is in safe hands with virtually zero risk of default.
Thus, repo rate is always higher than the reverse repo rate.