UPSC Prelims 2013 Q75: Indian Economy – Monetary Policy & Money Supply
In the context of Indian economy, ‘Open Market Operations’ refers to
- (a) borrowing by scheduled banks from the RBI
- (b) lending by commercial banks to industry and trade
- (c) purchase and sale of government securities by the RBI
- (d) None of the above
Answer: (c) purchase and sale of government securities by the RBI
Explanation
Open Market Operations (OMO)
Open Market Operations are the purchase and sale of Government securities by the RBI in the open market.
| Action by the RBI | Effect on money supply | When used |
|---|---|---|
| Sells securities | Takes money out of the system | To control inflation |
| Buys securities | Puts money into the system | To boost growth and ease liquidity |
The options checked:
| Option | What it really is |
|---|---|
| (a) Borrowing by scheduled banks from the RBI | Repo or MSF borrowing |
| (b) Lending by commercial banks to industry and trade | Ordinary bank credit |
| (c) Purchase and sale of government securities by the RBI | Open Market Operations |
| (d) None of the above | Incorrect |
Related tools: the Market Stabilisation Scheme and Operation Twist (buying long-term and selling short-term securities together).
Answer: (c) purchase and sale of government securities by the RBI.
Why each option is right or wrong
- (a) Incorrect. Borrowing by banks from the RBI is done through the repo window.
- (b) Incorrect. Lending by commercial banks is normal credit, not OMO.
- (c) CORRECT. OMO is the purchase and sale of government securities by the RBI.
- (d) Incorrect. Option (c) is right.
Key point
Open Market Operations: RBI buys securities to add liquidity and sells them to absorb liquidity; a quantitative tool of monetary policy.
Remember
OMO = RBI buys and sells Government securities.
Common mistakes
- Mixing up the direction: selling securities reduces money supply.
- Confusing OMO with repo operations.
- Thinking OMO involves shares; it involves Government securities.
Exam tip
RBI sells = soaks up money. RBI buys = releases money.
Sources
- Reserve Bank of India — Monetary Policy: instruments (Open Market Operations)
- NCERT Class XII — Introductory Macroeconomics, Ch 3 (Money and Banking)