Question

If the RBI increases the repo rate, which of the following is the most likely immediate effect on the economy?

Options

• Loans become cheaper, and credit expands

• Banks reduce deposits with the RBI and lend more

• Loans become costlier, and credit shrinks

• Banks earn less on funds parked with the RBI

Answer 1

Loans become costlier, and credit shrinks

Explanation: 

A higher repo rate makes borrowing from the RBI costlier for banks, so banks raise lending rates, making loans costlier and reducing credit in the economy.