[Economy Q] Repo rate and Reverse repo rate, How they curb inflation? 

                              Repo Rate

Bank of Baroda (BoB) has Government security bonds. But now BoB needs some extra-money.
So, RBI manager tell the BoB manager

I'm going to buy your bond for Rs.100, but you gotta promise me that you'll buy it back from me after 6 months @ 120 Rs.

BOB agrees and deal is made.
So basically BoB is going to repurchase the same bond it is selling right now, That's why its called 'REPO' (repurchase).
The return offered to RBI in above case is 120-100=20%
So REPO rate is 20%
This way banks borrow money from RBI.
Means,REPO rate is the interest charged by RBI on the money it gives to banks.

         Technical definition of REPO Rate        

Repo, RP, or Sale and Repurchase Agreement, is the sale of securities together with an agreement for the seller to buy back the securities at a later date. The repurchase price will be greater than the original sale price, the difference effectively representing interest, sometimes called the repo rate.

Suppose today the REPO rate is 20%.
After a month REPO rate is decreased to 10%
Means banks have to pay less interest on the money they borrow from RBI!
Means banks will borrow more money from RBI (as the interest rate has gone down from 20% to 10%)
=more money in market = liquidity= interest rates go down = easy to get home loans & car loans = boost in economy.

          Conclusion about REPO Rate

RBI increases money supply in market by decreasing Repo rate.

But after some months,RBI sees that there is too much money in the market, and not enough supply of items hence inflation is rising.
So RBI needs to take out that extra liquidity (money) from the market.
For that, RBI will put up its REPO papers on sale.
Means this time Banks are doing the reverse; instead of selling REPO papers to RBI, they are buying the REPO papers. So its called Reverse REPO.
And the interest offered on such Reverse REPO agreement is Reverse repo rate.

Suppose last month Reverse REPO rate was only 5.1%
This month reverse repo increased to 5.5%, means its attractive to lend money to RBI, as RBI is offering better interest rate than last month!
So Bank will give its extra money to RBI.
This way liquidity is sucked out,
Now there is less money in the system, compared to earlier, so banks will increase their interest rates will giving loans to customers. Thus less money compared to items available for purchase = inflation is curbed.

To sum up with a table:

	Repo rate	Reverse repo rate
Other name	Short term lending rate	Short term borrowing rate
Means	Interest charged by the central bank (RBI) on borrowings by commercial banks	The rate at which the central bank borrows money from commercial banks.
What happens, if this rate is INCREASED?	Cost of borrowing costlier for the commercial banks.	More lucrative for banks to park funds with the RBI. Means RBI will take out extra money from the system, by increasing Reverse Repo Rate = inflation is curbed.