With reference to the Indian economy, consider the following statements:
- 1.If the inflation is too high, Reserve Bank of India (RBI) is likely to buy government securities.
- 2.If the rupee is rapidly depreciating, RBI is likely to sell dollars in the market.
- 3.If interest rates in the USA or European Union were to fall, that is likely to induce RBI to buy dollars.
Which of the statements given above are correct?
Answer & explanation
Answer: (b) 2 and 3 only
When the RBI buys government securities it pays out money and raises the money supply, which would feed inflation, so statement 1 is wrong. Selling dollars supports a falling rupee, and a fall in US or EU interest rates draws funds into India, which the RBI soaks up by buying dollars.
- ✗ 1. Buying bonds in open market operations adds reserves to the banking system and expands money supply. To fight high inflation the RBI would do the opposite and sell securities to absorb money.
- ✓ 2. Under India's managed float the RBI intervenes in the currency market. Selling dollars from its reserves raises the supply of dollars and eases the pressure on a rapidly weakening rupee.
- ✓ 3. Funds move to where returns are higher. Lower rates in the USA or EU make Indian assets more attractive, dollars flow in and the rupee tends to rise; the RBI buys those dollars to smooth the rise and add to reserves.
Remember · RBI buys bonds = injects money (not an anti-inflation step). RBI sells dollars = defends a falling rupee. Capital inflows = RBI buys dollars.
📘 Read it in NCERT: Class 12 Introductory Macroeconomics, Ch 3 (practise this chapter) · Class 12 Introductory Macroeconomics, Ch 6 (practise this chapter) · Class 12 Introductory Macroeconomics, Ch 6 (practise this chapter)
Sources
- NCERT Class 12 · Introductory Macroeconomics, Chapter 3 “When RBI buys a Government bond in the open market, it pays for it by giving a cheque. This cheque increases the total amount of reserves in the economy and thus increases the money supply.”
- NCERT Class 12 · Introductory Macroeconomics, Chapter 6 “Under this system, also called dirty floating, central banks intervene to buy and sell foreign currencies in an attempt to moderate exchange rate movements whenever they feel that such actions are appropriate.”
- NCERT Class 12 · Introductory Macroeconomics, Chapter 6 “Investors from country A will be attracted by the high interest rates in country B and will buy the currency of country B selling their own currency.”
Question and answer: UPSC's official GS Paper I (2022, Series A) — paper ↗ · answer key ↗. Explanation: Minimalist IAS, checked 30 Sept 2026 (how we verify). ·