What is Bank Rate?
The rate at which the Central Bank of the country (in India, RBI is the central bank) allows commercial banks to lend money to corporate or borrowers against their securities. In other words, we can say that the Bank rate is a rate at which banks borrow short term loan from RBI. The newer terms base rate and prime rate have replaced the term bank rate. As soon as the RBI hikes the bank rate, it will not only directly or indirectly affects the interest rates on deposits, bond issues and mortgages but also increase or decrease in EMI.
How does change in Bank Rate affect Inflation?
The RBI (Reserve Bank of India) can regulate the level of economic activity by managing the bank rate. When unemployment is high, the RBI can lower bank rates which can help to expand the economy by lowering the cost of fund for borrowers. On the contrary, when inflation is higher than the desired level, the RBI can higher the bank rates which can help to reign in the economy. Therefore, we can say that in case the RBI hikes the bank rate, it will certainly compel the commercial banks to hike their lending rates.