UPSC Prelims 2013 Q74: Indian Economy – Monetary Policy & Money Supply
Consider the following liquid assets:
1. Demand deposits with the banks
2. Time deposits with the banks
3. Savings deposits with the banks
4. Currency The correct sequence of these assets in the decreasing order of liquidity is
- (a) 1 - 4 - 3 - 2
- (b) 4 - 3 - 2 - 1
- (c) 2 - 3 - 1 - 4
- (d) 4 - 1 - 3 - 2
Answer: (d) 4 - 1 - 3 - 2
Explanation
Liquid assets in decreasing order of liquidity
Liquidity means how quickly and easily an asset can be used to make a payment.
| Rank | Asset | Why |
|---|---|---|
| 1 | 4. Currency | Already cash; accepted at once |
| 2 | 1. Demand deposits | Current accounts; payable on demand by cheque |
| 3 | 3. Savings deposits | Can be withdrawn, but with some limits |
| 4 | 2. Time deposits | Fixed for a period; early withdrawal costs a penalty |
So the sequence is 4 - 1 - 3 - 2.
RBI's measures of money supply:
| Measure | Contains | Liquidity |
|---|---|---|
| M1 (narrow money) | Currency + demand deposits | Highest |
| M2 | M1 + post office savings deposits | High |
| M3 (broad money) | M1 + time deposits | Lower |
| M4 | M3 + all post office deposits | Lowest |
Answer: (d) 4 - 1 - 3 - 2.
Why each option is right or wrong
- (a) Incorrect. Currency is the most liquid, so it must come first.
- (b) Incorrect. Demand deposits are more liquid than savings and time deposits.
- (c) Incorrect. This is nearly the reverse; time deposits are the least liquid.
- (d) CORRECT. Decreasing liquidity: currency, demand, savings, time deposits.
Key point
Liquidity order: currency, demand deposits, savings deposits, time deposits. M1 is the most liquid measure of money; M4 the least.
Remember
Currency > demand > savings > time deposits.
Common mistakes
- Placing demand deposits above currency.
- Mixing up savings and time deposits.
- Forgetting that M1 to M4 run from most to least liquid.
Exam tip
The harder it is to withdraw, the lower the liquidity.
Sources
- NCERT Class XII — Introductory Macroeconomics, Ch 3 (Money and Banking)
- Reserve Bank of India — Report of the Working Group on Money Supply (1998)