Repo Rate

Repo rates are the discounted rates central banks use to repurchase government-backed securities from commercial banking institutions; they serve as a method of controlling the money supply to promote favorable economic conditions. For instance, raising the rate at which securities are purchased tends to create a higher volume of sales, consolidating money supplies into government control and reducing the amount of money available in the economy. Lowering the discounted rate at which securities are repurchased creates the opposite effect.


How repo rates work


Treasury notes and bonds are among the most common types of government-backed securities. The government offers these and other securities for sale in order to raise funds. When banks buy these securities, they tie up a portion of the financial capital available to the economy; this creates what is known as a tight money economy, where loans may be more difficult to obtain. The central bank can compensate for this situation by decreasing the repo rate, reducing the profitability of these securities. Banks in turn resell the securities back to the government in order to increase the amount of cash on hand and allow them to use that money for more profitable investment opportunities. When repo rates are low, loans and other investment capital is easier to obtain since more cash is available in the economy. Raising the repo rate tends to increase the amount of money banks invest in these securities and reduces the amount of cash in the economy.

Repo rates and reverse repo rates


As tools for economic policy management, repo rates offer a higher degree of control than most other methods, since the repo rate can be set directly by the central bank. Central banks can also elect to borrow money directly from other banks; the rate set for these transactions is called the reverse repo rate. Typically such borrowing is triggered when the central bank is low on funds and requires a cash infusion; nonetheless, reverse repo transactions are generally safe for banks, since central banks are among the most stable and reliable financial institutions. Both repo rates and reverse repo rates have a significant effect on the economy and can be used to help manage the amount of money available for loans and investment.
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