WHAT?

The reverse repo rate is the interest rate at which the RBI borrows short-term funds from commercial banks, effectively absorbing excess liquidity usually at a fixed rate as determined by the RBI.

A Variable Reverse Repo Rate (VRRR) is a monetary policy tool used by the Reserve Bank of India (RBI) to manage liquidity in the banking system in which the "variable" aspect refers to a mechanism where the rate is determined through auctions, allowing flexibility in the interest rate based on market conditions and bank bids, rather than being fixed at the RBI’s standard reverse repo rate.

VRRR is used when there’s excess liquidity, often due to factors like government spending, foreign capital inflows, or RBI’s open market operations. For example, in 2021-2022, VRRR auctions were frequently conducted to mop up liquidity injected during the COVID-19 pandemic.

For example, If banks hold ₹3 lakh crore in excess liquidity due to heavy government spending, the RBI may conduct a 14-day VRRR auction to absorb ₹1 lakh crore. If the cut-off rate is 3.45%, banks earn this rate, and the RBI reduces liquidity, stabilizing market interest rates.
 

Key Features

1. VRRR auctions help the RBI withdraw surplus liquidity from the banking system to control inflation, stabilize money market rates, and prevent excessive lending that could fuel price rises. By offering higher or variable rates, the RBI incentivizes banks to park funds with it.
2. The RBI conducts VRRR auctions (typically for 7-28 days) where banks bid to lend money to the RBI at varying interest rates. The rates are generally around or above the fixed reverse repo rate (currently 3.35% as of June 2025, unchanged since 2020, though tied to the repo rate of 6.5% via a corridor).
3. The RBI sets a target amount for liquidity absorption and accepts bids starting from the highest rate until the target is met.
4. Difference from Fixed Reverse Repo: Unlike the fixed reverse repo rate, which is a standing facility available daily, VRRR allows dynamic rate adjustments based on liquidity conditions, ensuring market-driven outcomes.

How It Works?

Example: If the RBI announces a VRRR auction to absorb ₹2 lakh crore, banks submit bids with amounts and interest rates (e.g., Bank A offers ₹10,000 crore at 3.5%, Bank B at 3.45%). The RBI accepts bids starting from the highest rate until the target is met, setting a cut-off rate (e.g., 3.45%).

Banks earn the bid rate, and the RBI reduces liquidity, stabilizing short-term interest rates like the call money rate, which influences lending and borrowing costs.

Economic Impact

1. Inflation Control: By absorbing excess funds, VRRR prevents banks from lending excessively, which could drive up prices.
2. Bank Behavior: Higher VRRR rates encourage banks to park funds with the RBI rather than lend, tightening credit availability.
3. Market Rates: VRRR helps align short-term interbank rates with the RBI’s policy corridor (between the Marginal Standing Facility rate of 6.75% and reverse repo rate).