CA Foundation · Business Economics · Business Cycles
India's Reserve Bank of India maintains inflation targeting framework as part of monetary policy. If the RBI observes that the economy is entering the expansion phase with inflation beginning to accelerate above its target band, which policy tool would most directly counter the inflationary pressure?
To counter inflation during expansion, the RBI raises the Repo Rate, which increases borrowing costs for banks and the public. This contractionary measure reduces credit expansion and aggregate demand, thereby cooling inflationary pressure in the economy.
- AReducing the Cash Reserve Ratio to increase money supply in circulation
- BRaising the Repo Rate to make borrowing costlier and restrict credit expansionCorrect
- CLowering Statutory Liquidity Ratio to encourage bank lending to businesses
- DAnnouncing government spending cuts across all ministries simultaneously
Explanation
In the expansion phase with rising inflation, the RBI uses contractionary monetary policy. Raising the Repo Rate increases the cost of borrowing, which reduces money supply growth and curbs aggregate demand. Option 0 and 2 are expansionary and would worsen inflation. Option 3 confuses monetary policy (RBI's tool) with fiscal policy (government's tool). The Repo Rate is the primary instrument for inflation control during inflationary expansions.
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