Monetary Policy & RBI Tools — Set 16

Correct Answer: B. Notes and coins held by public and banks outside RBI

Currency in circulation refers to all notes and coins in the hands of the public and held in bank vaults (cash reserve), excluding currency at the RBI issue department. It is a key component of the reserve money (M0). India's currency-to-GDP ratio is relatively high (around 11-12%), reflecting the continued preference for cash transactions in many sectors.

Correct Answer: B. Finance Minister

The Financial Stability and Development Council (FSDC) is chaired by the Finance Minister of India. It was established in 2010 to strengthen and institutionalize the mechanism for maintaining financial stability. FSDC includes heads of all financial sector regulators — RBI, SEBI, IRDAI, PFRDA — as members and serves as a macro-prudential authority for the Indian financial system.

Correct Answer: B. Changes in policy rate → changes in market rates → changes in investment and consumption

The interest rate channel is the primary channel through which monetary policy works: RBI changes the repo rate → banks adjust MCLR/EBLR → lending and deposit rates change → investment and consumption decisions respond → aggregate demand and inflation change. The effectiveness of this channel depends on how quickly and fully banks pass on rate changes to borrowers and depositors.

Correct Answer: C. Urjit Patel Committee

The Urjit Patel Committee (Expert Committee to Revise and Strengthen the Monetary Policy Framework), constituted in 2013 under Dr. Urjit Patel (then Deputy Governor, later Governor of RBI), recommended the adoption of the flexible inflation targeting framework with CPI as the target and a 4% target (±2%). The report submitted in January 2014 formed the basis of India's current monetary policy framework.

Correct Answer: B. Changes in interest rate affecting capital flows and exchange rate, which affects trade and inflation

The exchange rate channel works as follows: when RBI raises interest rates, it attracts capital inflows (foreign investment), increasing demand for rupees, causing rupee appreciation. A stronger rupee makes imports cheaper (reducing import inflation) and exports more expensive (reducing export demand). Both effects help contain inflation. This channel is more relevant for open economies like India.

Correct Answer: B. Non-standard measures used when conventional tools (rate changes) are ineffective

Unconventional monetary policy (UMP) refers to measures used when conventional policy rate cuts become ineffective (especially near zero interest rates). Examples include quantitative easing (QE), yield curve control, forward guidance, negative interest rates, and targeted credit facilities like TLTRO. India adopted some UMP tools like TLTRO and G-SAP during the COVID-19 crisis.

Correct Answer: B. Central bank's communication about future policy intentions to influence market expectations

Forward guidance is an unconventional monetary policy tool where the central bank communicates its intended future policy path (rates, stance) to influence current market expectations and economic behaviour. By signalling that rates will remain low for an extended period, a central bank can reduce long-term borrowing costs without actually cutting rates. RBI uses its policy statement and stance to provide forward guidance.

Correct Answer: B. Revenue earned by government from issuing currency (face value minus printing cost)

Seigniorage is the profit earned by the government (and by extension, the central bank) from the issuance of currency. It equals the difference between the face value of currency notes and the cost of producing them. RBI transfers its surplus profit (after provisions) to the Government of India as dividend, which includes seigniorage income from currency issuance.

Correct Answer: B. Monetary and fiscal policy are complementary — both influence aggregate demand, inflation, and growth

Monetary policy (RBI's control of interest rates and money supply) and fiscal policy (government's spending, taxation, and borrowing decisions) are complementary in influencing macroeconomic outcomes like inflation, growth, and employment. When the government runs large fiscal deficits and borrows heavily, it puts upward pressure on interest rates and complicates RBI's inflation management — making coordination essential.

Correct Answer: B. Tendency for inflation to continue at high levels even after its initial causes are removed

Inflation persistence refers to the tendency of inflation to remain elevated even after the initial shock that caused it has dissipated, often due to entrenched inflation expectations, wage-price spirals, or supply-side rigidities. High core inflation in India is often described as 'persistent' because it remains elevated even when food and fuel price shocks subside. Persistent inflation requires sustained monetary tightening.