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In a move that will raise borrowing costs, the Reserve Bank of India (RBI) has hiked the benchmark lending rate by 40 basis points (bps) to 4.40 per cent. After announcing the rate hike, RBI Governor Shaktikanta Das said that this was essential to contain inflation that has remained above the target of 6 per cent for the last three months.

This is the first-rate hike since August 2018 and the first instance of the MPC making an unscheduled increase in the repo rate. The repo rate is the rate at which banks borrow from the RBI.

Experts explain how rate hike will bring inflation under control.

Dr Ravi Singh, vice President and head of Research Share india said post covid pandemic, government has announced several fiscal reforms and kept the interest rate lower for the revival of the economy. This led to an increase in the liquidity and the purchasing power of the consumer. Implementing the rate hikes is an effort to stabilize runaway inflation. 

By increasing borrowing costs, rising interest rates discourage consumer and business spending and helps in curbing the inflation, he added

Inflation in India has reached 6.95%, which is much higher than the safe zone of 6%. “Due to the rise in inflation, it was inevitable that the government will increase the repo rate and reduce the money supply in the market," Hritesh Lohiya, Co-Founder, PRiti International Limited said.

“From a growth-based stance, the government’s key focus is now to control the rise in inflation. The Indian government has had an accommodative stance in the past and now it is set for a change," he added.

The Indian government has defined inflation in the range of 4-6% for the economy to function correctly till December 26. Nidhi Aggarwal, Founder, SpaceMantra said the current rate has reached 6.95% and is cautionary. Hence, it was inevitable that the RBI will increase the repo rate as well as the cash reserve ratio to soften demand and liquidity, thereby controlling inflation. 

Meanwhile, it should be noted that though the rate hike is a prudent step, the present inflationary pressure is rooted in global phenomena such as escalating energy prices. 

She further added that the surge in energy prices will continue to weigh on the economic health and the rate hike will have a limited impact.

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