The policy rate and the corridor
The repo rate is announced, but what actually anchors overnight money is a corridor with a floor and a ceiling. The structure explains why a rate cut sometimes does nothing.
Chapter 6 · Intermediate
The headline is "the RBI cut the repo rate by 25 basis points". What that actually moves is a corridor, and knowing its shape explains several things the headline does not.
The three rates
The repo rate is the policy rate — the rate at which the RBI lends to banks against collateral, for short periods. It is the number the MPC votes on.
The standing deposit facility (SDF) sits 25 basis points below the repo. Banks with surplus cash can park it with the RBI overnight at this rate, with no collateral required from the RBI's side.
The marginal standing facility (MSF) sits 25 basis points above the repo. Banks short of cash can borrow overnight at this penal rate.
Together those form a corridor 50 basis points wide, with the repo rate in the middle.
Why the corridor works
The two edges are not merely reference rates — they are facilities any eligible bank may use, and that is what makes them binding.
No bank will lend to another bank below the SDF rate, because it can deposit with the RBI at that rate with no credit risk at all. The SDF is a floor.
No bank will borrow from another above the MSF rate, because it can borrow from the RBI at that rate. The MSF is a ceiling.
So the overnight market rate is penned between them, without the RBI having to buy or sell anything to enforce it. The corridor sets the boundaries by making better alternatives available, which is a far more robust mechanism than persuasion.
Where inside the corridor the overnight rate actually sits depends on how much surplus cash the system is carrying — the subject of chapter 8.
Working the problem
A 25 basis point cut, and overnight rates barely move. Two corridor-based explanations:
The overnight rate was already at the floor. With a large liquidity surplus, banks have nowhere better than the SDF, so the market rate sits at or near the SDF rather than the repo. Cutting the repo moves the midpoint, and the effective rate — pinned at the floor — moves only as far as the floor does.
The rate was already at the ceiling. With a deficit, banks are borrowing at MSF. The same logic applies in reverse.
What tells them apart: where the overnight rate was before the cut, relative to the three rates. If it was hugging the SDF, the system was in surplus; if hugging the MSF, in deficit; if near the repo, balanced — and in that last case the cut should transmit.
This is the practical lesson: the announced rate is not always the operative rate, and reading which edge the system is sitting against tells you more than the headline.
The two ratios
Alongside the corridor, two balance sheet requirements from chapter 1:
Cash reserve ratio (CRR) — a share of deposits that must be maintained with the RBI. It is a direct tax on the balance sheet: those funds earn nothing and cannot be lent. Raising it withdraws liquidity permanently rather than overnight.
Statutory liquidity ratio (SLR) — a minimum holding of liquid assets, mostly government securities. These do earn, so SLR is less costly than CRR, and it has a second effect: it creates captive demand for government debt.
Both are blunt compared with the corridor. The corridor adjusts the price of money continuously; CRR and SLR change the quantity banks must hold, and are moved rarely.
Basis points, and why the unit matters
A basis point is one hundredth of a percentage point. 25 basis points is 0.25%.
The unit exists to remove an ambiguity that genuinely causes errors: "rates rose by 1%" could mean from 6% to 7%, or from 6% to 6.06%. "Rose by 100 basis points" can only mean the first.
The point
The repo rate is the announced policy rate, but overnight money is penned inside a 50 basis point corridor — the standing deposit facility 25 below as a floor, the marginal standing facility 25 above as a ceiling — because any bank can use either facility instead of the market. Where the rate sits within that corridor depends on system liquidity, which is why a repo cut transmits fully when liquidity is balanced and barely at all when the system is pinned to an edge.
Check yourself
4 questions. Every answer is explained afterwards, including the ones you get right — guessing correctly is not the same as knowing. Score 70% or more and the chapter is marked done.
Question 1 of 4
0 of 4 answered. You can submit with questions unanswered — they simply score zero.
Now do it with your own numbers
The repo rate is cut by 25 basis points but overnight market rates barely move. Give two explanations involving the corridor, and say what you would look at to tell them apart.
Ask where the overnight rate was sitting *before* the cut — at the repo, or at one of the two edges. That single observation separates the cases.