CA Foundation · Business Economics · Money Market
The RBI announces an open market operation (OMO) in which it purchases government securities from the market. What is the likely effect on the banking system?
An OMO purchase of government securities by the RBI injects money into the banking system, increasing liquidity. The RBI pays the sellers, raising bank reserves, and the added demand for securities tends to lower yields. An OMO sale does the reverse.
- ALiquidity in the system increases as the RBI pays out money to sellersCorrect
- BLiquidity in the system decreases as securities move to banks
- CBank reserves are unchanged because only securities change hands
- DYields on government securities rise sharply as supply of securities increases
Explanation
When the RBI buys securities, it pays for them with central bank money, which raises bank reserves and system liquidity. Securities demand also rises, so yields tend to fall. Option B describes an OMO sale, which is the opposite action.
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