What is a negative real interest rate?

Amid the coronavirus, there is a sharp drop in deposit rates due to aggressive rate cuts by banks in response to the RBI’s cut in benchmark rates. On top of that, the Consumer Price Index (CPI) slipped the real interest rate into negative territory.

CPI-based inflation was declared after two months of deviation in June, which stood at 6.09%, higher than expected (4%). The CPI is expected to decline to 4% by the end of the year. This is because the CPI fell to 5.91% in March from 7.52% in January. However, it increased again in June due to the coronavirus pandemic. It is also speculated that the RBI could cut interest rates further, which could force banks to cut deposit rates further.

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What is a negative real interest rate?

When the nominal interest rate falls below zero percent for a specific economic area, it is called the negative real interest rate.

For example: If inflation is 5% per annum and the bank provides 3% interest, then this is a negative real interest rate.

What is the nominal interest rate?

The nominal interest rate is the rate of return that an investor or borrower will get or have to pay in the market.

For example: If you have deposited Rs. 500 into your bank account and the bank offers 5% interest per annum, by the end of the year you will have Rs. 525.

What is the real interest rate?

When the nominal interest rate is adjusted for inflation, it is called the real interest rate.

For example: If inflation is 8% per annum, that means we now have to pay Rs. 108 for goods and services for which we have already paid Rs. 100. But your nominal interest rate is 5%, which means you only earned Rs. 3.

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