Contents
Definition
The reverse repurchase rate (reverse repo rate) is the rate at which the Reserve Bank of India borrows overnight funds from commercial banks — the mirror image of the repo rate. Under the Liquidity Adjustment Facility (LAF), banks park surplus funds with RBI at the reverse repo rate, receiving government securities as collateral for one day. The reverse repo rate has traditionally been set at repo rate minus 25 basis points (currently: 6.50% – 0.25% = 6.25%, though this corridor is now functionally anchored by the Standing Deposit Facility). Since April 2022, the RBI introduced the Standing Deposit Facility (SDF) at 6.25% as the new floor of the interest rate corridor — effectively replacing the reverse repo as the operative liquidity absorption rate, because the SDF does not require RBI to provide collateral to banks (making it simpler to operate at scale). The reverse repo rate is now effectively dormant in daily LAF operations but remains published in RBI policy communications.
How the Interest Rate Corridor Works
India's LAF interest rate corridor structure (as of April 2024):
- Marginal Standing Facility (MSF) rate: 6.75% — RBI lends to banks against SLR securities at above-repo; upper bound of corridor.
- Repo rate: 6.50% — RBI's policy rate; overnight lending to banks. The policy signalling rate.
- Standing Deposit Facility (SDF): 6.25% — RBI absorbs surplus liquidity from banks without collateral; functional floor of corridor.
- Reverse repo rate: 3.35% — Technically still published; not the operative floor. Banks prefer SDF (6.25%) over reverse repo (3.35%) for parking surplus.
The corridor width (MSF to SDF = 50 bps) is deliberately narrow to limit short-term money market rate volatility. During surplus liquidity conditions, call money rates gravitate toward the SDF rate (6.25%); during deficit conditions, toward MSF (6.75%).
Why It Matters for Investors
- Short-end yield floor: SDF rate (the functional reverse repo) sets the floor for overnight rates — call money, T-Rep rates, and liquid fund returns gravitate toward this floor during periods of banking system surplus.
- Liquid fund returns: Liquid funds that hold overnight instruments earn returns close to SDF rate (6.25%) in surplus liquidity conditions, and closer to repo (6.50%) during deficit conditions.
- RBI signalling: Historically, a widening of the repo-reverse repo corridor (e.g., cutting reverse repo while keeping repo stable, as in 2020) signals an intent to push more liquidity into the system more aggressively than a repo cut alone would achieve.
- Banking sector: When banks have excess liquidity (post-advance tax inflows, festive season deposit surge), they park funds at SDF. The volume of SDF absorption published by RBI daily is a real-time liquidity gauge.
Current Value + Recent History
The published reverse repo rate remains at 3.35% — last changed in May 2020 when RBI cut it by 40 bps (from 3.75%) as an asymmetric cut during COVID-19 to push banks toward lending rather than parking with RBI. The SDF rate at 6.25% has been the operative floor since April 2022. RBI's daily SDF absorption has ranged from near-zero (deficit liquidity conditions of Q4 FY2023) to ₹2–3 lakh crore (surplus conditions of Q2 FY2024). As of early 2024, the system oscillates around marginal surplus/deficit — SDF absorptions are modest at ₹50,000–₹1,50,000 crore on most days. If RBI cuts repo in FY2025, SDF would likely move in tandem (maintaining the 25 bps corridor), providing a new, slightly lower floor for liquid fund yields.
Worked Example
How the SDF/reverse repo floor affects a liquid fund investor:
- November 2023: Banking system in liquidity surplus of ₹1.5 lakh crore. SDF absorption at ₹1.2 lakh crore/day. Call money rate: 6.27% (just above SDF floor of 6.25%).
- Liquid fund portfolio: A liquid fund holding 60% overnight instruments, 40% in 30-60 day CPs/CDs earns approximately (0.60 × 6.27%) + (0.40 × 6.75%) = 3.76% + 2.70% = 6.46% gross. Net of 0.15% TER = 6.31% annualised.
- Comparison to FD: SBI 30-day FD rate = 3.50% (no interest paid for <45 day deposits at major banks). Liquid fund clearly superior for short-duration parking of corporate treasury cash.
- RBI cut scenario: If repo cut to 6.00%, SDF becomes 5.75%. Liquid fund gross yield falls ~50 bps to approximately 5.96%. FD rates fall with a 1-2 quarter lag — liquid fund remains superior short-term.
See Also
- Repo Rate
- Cash Reserve Ratio (CRR)
- Treasury Bill (T-Bill)
- Liquid Funds — Uses and Risks
- Reserve Bank of India
Primary Source
RBI — Standing Deposit Facility Introduction (April 2022 MPC) | RBI — Liquidity Adjustment Facility (LAF) Overview
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