Key Difference – Bank Rate vs Base Rate

Knowledge regarding bank rate and base rate is important for both borrowers and lenders in order to understand how these rates are affected by various economic conditions and government policies. The key difference between bank rate and base rate is that the bank rate is the rate at which the central bank in the country lends money to commercial banks, while base rate is the rate at which the commercial banks lend funds

✓✓What is Bank Rate

Bank rate is also referred to as the ‘discount rate’ and is the rate at which the central bank lends funds to the commercial banks. The commercial banks have a minimum reserve amount of funds to maintain and when the bank reaches this minimal threshold level, they borrow from the central bank. This is usually done in the form of short-term loans. Determining the bank rate is usually done quarterly to control the money supply in the economy.

The Central bank is responsible for maintaining the financial stability of an economy. The money supply in the economy is controlled by the central bank using two ways, which are interrelated.

1. Fiscal Policy

These are the government policies to influence the macroeconomic conditions such as to control unemployment, inflation and exchange rates within an economy.

2. Monetary Policy

Monetary policy includes actions taken to manage the money supply and interest rate (rate applied for borrowing and saving) within the economy.

E.g. If the inflation rates are increasing in the economy and the government desires to control it, a higher interest rate can be offered to the public as an incentive to save more. As a result, the money supply in the economy will reduce.

✓✓What is Base Rate

The base rate is the rate at which commercial banks grant loans to the public. The Base rate should not be below the Bank rate. Banks operate as an intermediary, accepting deposits from savers and lending funds to borrowers. Their profits are derived from the spread between the rate they pay for funds and the rate they receive from borrowers and recorded as the ‘Net Interest Margin’ (NIM).

✓✓Factors Affecting the Base Rate

• Economic Conditions

Economic conditions in a country are subjected to changes over time with favourable and unfavourable paces. In an economic recession (reduction in economic activity in a country) where the consumer confidence is low commercial banks will offer loans at a lower rate with the intention of increasing consumer spending. When the economy starts recovering and the customers are engaging in more spending the banks will begin to increase the interest rates gradually.

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Source: Grand Economic Society