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Question 1 of 10
1. Question
2 points
The total market value of all finished goods and services produced within a country in a set time period is
Correct
Correct Answer : C
Gross National Income (GNI)
GNI is the total amount of money earned by a nation’s people and businesses. It is used to
measure and track a nation’s wealth from year to year. The number includes the nation’s gross
domestic product plus the income it receives from overseas sources.
GNI is an alternative to gross domestic product (GDP) as a means of measuring and tracking a
nation’s wealth and is considered a more accurate indicator for some nations.
Understanding GNI
GNI calculates the total income earned by a nation’s people and businesses, including
investment income, regardless of where it was earned. It also covers money received from
abroad such as foreign investment and economic development aid.
GDP is the total market value of all finished goods and services produced within
a country in a set time period. Hence, option (c) is correct.
GNI is the total income received by the country from its residents and businesses
regardless of whether they are located in the country or abroad.
GNP includes the income of all of a country’s residents and businesses whether it flows
back to the country or is spent abroad. It also adds subsidies and taxes from foreign
Converting GDP to GNI
To convert a nation’s GDP to GNI, three terms need to be added to the former:
1) Foreign income paid to resident employees,
2) Foreign income paid to residential property owners and investors, and
3) net taxes minus subsidies receivable on production and imports.
Incorrect
Correct Answer : C
Gross National Income (GNI)
GNI is the total amount of money earned by a nation’s people and businesses. It is used to
measure and track a nation’s wealth from year to year. The number includes the nation’s gross
domestic product plus the income it receives from overseas sources.
GNI is an alternative to gross domestic product (GDP) as a means of measuring and tracking a
nation’s wealth and is considered a more accurate indicator for some nations.
Understanding GNI
GNI calculates the total income earned by a nation’s people and businesses, including
investment income, regardless of where it was earned. It also covers money received from
abroad such as foreign investment and economic development aid.
GDP is the total market value of all finished goods and services produced within
a country in a set time period. Hence, option (c) is correct.
GNI is the total income received by the country from its residents and businesses
regardless of whether they are located in the country or abroad.
GNP includes the income of all of a country’s residents and businesses whether it flows
back to the country or is spent abroad. It also adds subsidies and taxes from foreign
Converting GDP to GNI
To convert a nation’s GDP to GNI, three terms need to be added to the former:
1) Foreign income paid to resident employees,
2) Foreign income paid to residential property owners and investors, and
3) net taxes minus subsidies receivable on production and imports.
Question 2 of 10
2. Question
2 points
Which of the following was/were the policy reforms under Washington Consensus?
Interest rate liberalisation
Liberalisation of FDI inflows
Fiscal discipline
Secure property rights
Select the correct answer using the code given below:
Correct
Correct Answer : D
Washington consensus
The term ‘Washington Consensus’ was coined by the US economist John Williamson (in 1989)
under which he had suggested a set of policy reforms which most of the official in Washington
(i.e., International Monetary Fund and World Bank) thought would be good for the crisis-
driven Latin American countries of the time.
The policy reforms included ten propositions:
(i) Fiscal discipline
(ii) A redirection of public expenditure priorities toward fields offering both high
economic returns and the potential to improve income distribution, such as primary
health care, primary education, and infrastructure.
(iii) Tax reform (to lower marginal rates and broaden the tax base)
(iv) Interest rate liberalisation
(v) A competitive exchange rate
(vi) Trade liberalisation
(vii) Liberalisation of FDI inflows
(viii) Privatisation
(ix) Deregulation (in the sense of abolishing barriers to entry and exit)
(x) Secure property rights
All the above are correct.
However, in coming times, the term became synonymous to neo-liberalism (in Latin America),
market fundamentalism (as George Soros told in 1998) and even globalization across the
It has often been used to describe an extreme and dogmatic commitment to the belief
that markets can handle everything.
Incorrect
Correct Answer : D
Washington consensus
The term ‘Washington Consensus’ was coined by the US economist John Williamson (in 1989)
under which he had suggested a set of policy reforms which most of the official in Washington
(i.e., International Monetary Fund and World Bank) thought would be good for the crisis-
driven Latin American countries of the time.
The policy reforms included ten propositions:
(i) Fiscal discipline
(ii) A redirection of public expenditure priorities toward fields offering both high
economic returns and the potential to improve income distribution, such as primary
health care, primary education, and infrastructure.
(iii) Tax reform (to lower marginal rates and broaden the tax base)
(iv) Interest rate liberalisation
(v) A competitive exchange rate
(vi) Trade liberalisation
(vii) Liberalisation of FDI inflows
(viii) Privatisation
(ix) Deregulation (in the sense of abolishing barriers to entry and exit)
(x) Secure property rights
All the above are correct.
However, in coming times, the term became synonymous to neo-liberalism (in Latin America),
market fundamentalism (as George Soros told in 1998) and even globalization across the
It has often been used to describe an extreme and dogmatic commitment to the belief
that markets can handle everything.
Question 3 of 10
3. Question
2 points
Consider the following statements regarding consumer durables
Goods like food and clothing, and services like recreation that are consumed when purchased
by their ultimate consumers are called consumer durables.
They undergo wear and tear with gradual use and often need to be preserved, maintained and
renewed.
Which of the statements given above is/are correct?
Correct
Correct Answer : B
Answer Justification :
Of the final goods, we can distinguish between consumption goods and capital goods. Goods
like food and clothing, and services like recreation that are consumed when
purchased by their ultimate consumers are called consumption goods or consumer
Hence, statement 1 is incorrect.
(This also includes services which are consumed but for convenience we may refer to them as
consumer goods.) Then there are other goods that are of durable character which are used in
the production process. These are tools, implements and machines.
While they make production of other commodities feasible, they themselves don’t get
transformed in the production process. They are also final goods yet they are not final goods to
be ultimately consumed. Unlike the final goods that we have considered above, they are the
crucial backbone of any production process, in aiding and enabling the production to take
These goods form a part of capital, one of the crucial factors of production in which a
productive enterprise has invested, and they continue to enable the production process to go
on for continuous cycles of production. These are capital goods and they gradually undergo
wear and tear, and thus are repaired or gradually replaced over time. The stock of capital that
an economy possesses is thus preserved, maintained and renewed partially or wholly over time
and this is of some importance in the discussion that will follow.
We may note here that some commodities like television sets, automobiles or home
computers, although they are for ultimate consumption, have one characteristic in
common with capital goods – they are also durable. That is, they are not extinguished
by immediate or even short period consumption; they have a relatively long life as
compared to articles such as food or even clothing. They also undergo wear and tear
with gradual use and often need repairs and replacements of parts, i.e., like machines
they also need to be preserved, maintained and renewed. That is why we call these
goods consumer durables.
Of the total production taking place in the economy a large number of products don’t end up in
final consumption and are not capital goods either. Such goods may be used by other
producers as material inputs. Examples are steel sheets used for making automobiles and
copper used for making utensils.
These are intermediate goods, mostly used as raw material or inputs for production of other
commodities. These are not final goods.
Incorrect
Correct Answer : B
Answer Justification :
Of the final goods, we can distinguish between consumption goods and capital goods. Goods
like food and clothing, and services like recreation that are consumed when
purchased by their ultimate consumers are called consumption goods or consumer
Hence, statement 1 is incorrect.
(This also includes services which are consumed but for convenience we may refer to them as
consumer goods.) Then there are other goods that are of durable character which are used in
the production process. These are tools, implements and machines.
While they make production of other commodities feasible, they themselves don’t get
transformed in the production process. They are also final goods yet they are not final goods to
be ultimately consumed. Unlike the final goods that we have considered above, they are the
crucial backbone of any production process, in aiding and enabling the production to take
These goods form a part of capital, one of the crucial factors of production in which a
productive enterprise has invested, and they continue to enable the production process to go
on for continuous cycles of production. These are capital goods and they gradually undergo
wear and tear, and thus are repaired or gradually replaced over time. The stock of capital that
an economy possesses is thus preserved, maintained and renewed partially or wholly over time
and this is of some importance in the discussion that will follow.
We may note here that some commodities like television sets, automobiles or home
computers, although they are for ultimate consumption, have one characteristic in
common with capital goods – they are also durable. That is, they are not extinguished
by immediate or even short period consumption; they have a relatively long life as
compared to articles such as food or even clothing. They also undergo wear and tear
with gradual use and often need repairs and replacements of parts, i.e., like machines
they also need to be preserved, maintained and renewed. That is why we call these
goods consumer durables.
Of the total production taking place in the economy a large number of products don’t end up in
final consumption and are not capital goods either. Such goods may be used by other
producers as material inputs. Examples are steel sheets used for making automobiles and
copper used for making utensils.
These are intermediate goods, mostly used as raw material or inputs for production of other
commodities. These are not final goods.
Question 4 of 10
4. Question
2 points
Consider the following statements regarding consumer durables
Goods like food and clothing, and services like recreation that are consumed when purchased
by their ultimate consumers are called consumer durables.
They undergo wear and tear with gradual use and often need to be preserved, maintained and renewed.
Which of the statements given above is/are correct?
Correct
Correct Answer : B
Answer Justification :
Of the final goods, we can distinguish between consumption goods and capital goods. Goods
like food and clothing, and services like recreation that are consumed when
purchased by their ultimate consumers are called consumption goods or consumer
Hence, statement 1 is incorrect.
(This also includes services which are consumed but for convenience we may refer to them as
consumer goods.) Then there are other goods that are of durable character which are used in
the production process. These are tools, implements and machines.
While they make production of other commodities feasible, they themselves don’t get
transformed in the production process. They are also final goods yet they are not final goods to
be ultimately consumed. Unlike the final goods that we have considered above, they are the
crucial backbone of any production process, in aiding and enabling the production to take
These goods form a part of capital, one of the crucial factors of production in which a
productive enterprise has invested, and they continue to enable the production process to go
on for continuous cycles of production. These are capital goods and they gradually undergo
wear and tear, and thus are repaired or gradually replaced over time. The stock of capital that
an economy possesses is thus preserved, maintained and renewed partially or wholly over time
and this is of some importance in the discussion that will follow.
It is aimed at reducing the cost of business operations and cascading effect of
various taxes on consumers. It has also reduced the overall cost of production,
which will make Indian products/services more competitive in the domestic and
international markets.
It will also result into higher economic growth as GDP is expected to rise by
about 2%.
Compliance will also be easier as all tax payment related services like
registration, returns, payments are available online through a common portal
gst.gov.in.
It has expanded the tax base, introduced higher transparency in the taxation
system, reduced human interface between Taxpayer and Government and is
furthering ease of doing business.
All the above statements are correct.
Incorrect
Correct Answer : B
Answer Justification :
Of the final goods, we can distinguish between consumption goods and capital goods. Goods
like food and clothing, and services like recreation that are consumed when
purchased by their ultimate consumers are called consumption goods or consumer
Hence, statement 1 is incorrect.
(This also includes services which are consumed but for convenience we may refer to them as
consumer goods.) Then there are other goods that are of durable character which are used in
the production process. These are tools, implements and machines.
While they make production of other commodities feasible, they themselves don’t get
transformed in the production process. They are also final goods yet they are not final goods to
be ultimately consumed. Unlike the final goods that we have considered above, they are the
crucial backbone of any production process, in aiding and enabling the production to take
These goods form a part of capital, one of the crucial factors of production in which a
productive enterprise has invested, and they continue to enable the production process to go
on for continuous cycles of production. These are capital goods and they gradually undergo
wear and tear, and thus are repaired or gradually replaced over time. The stock of capital that
an economy possesses is thus preserved, maintained and renewed partially or wholly over time
and this is of some importance in the discussion that will follow.
It is aimed at reducing the cost of business operations and cascading effect of
various taxes on consumers. It has also reduced the overall cost of production,
which will make Indian products/services more competitive in the domestic and
international markets.
It will also result into higher economic growth as GDP is expected to rise by
about 2%.
Compliance will also be easier as all tax payment related services like
registration, returns, payments are available online through a common portal
gst.gov.in.
It has expanded the tax base, introduced higher transparency in the taxation
system, reduced human interface between Taxpayer and Government and is
furthering ease of doing business.
All the above statements are correct.
Question 5 of 10
5. Question
2 points
Which of the following are benefits/potential benefits of Goods and Service Tax (GST)?
It will result into higher economic growth as GDP is expected to rise by about 2%.
It has expanded the tax base and introduced higher transparency in the taxation system.
It has facilitated the freedom of movement of goods and services and created a common
market in the country.
Which of the statements given above are correct?
Correct
Correct Answer : D
Goods and Service Tax (GST) is the single comprehensive indirect tax, operational from 1 July
2017, on supply of goods and services, right from the manufacturer/ service provider to the
It is a destination-based consumption tax with facility of Input Tax Credit in the
supply chain. It is applicable throughout the country with one rate for one type of
goods/service. It has amalgamated a large number of Central and State taxes and cesses. It
has replaced large number of taxes on goods and services levied on production/sale of goods
or provision of service.
GST has simplified the multiplicity of taxes on goods and services.
The laws, procedures and rates of taxes across the country are standardized. It
has facilitated the freedom of movement of goods and services and created a
common market in the country.
It is aimed at reducing the cost of business operations and cascading effect of
various taxes on consumers. It has also reduced the overall cost of production,
which will make Indian products/services more competitive in the domestic and
international markets.
It will also result into higher economic growth as GDP is expected to rise by
about 2%.
Compliance will also be easier as all tax payment related services like
registration, returns, payments are available online through a common portal
gst.gov.in.
It has expanded the tax base, introduced higher transparency in the taxation
system, reduced human interface between Taxpayer and Government and is
furthering ease of doing business.
All the above statements are correct.
Incorrect
Correct Answer : D
Goods and Service Tax (GST) is the single comprehensive indirect tax, operational from 1 July
2017, on supply of goods and services, right from the manufacturer/ service provider to the
It is a destination-based consumption tax with facility of Input Tax Credit in the
supply chain. It is applicable throughout the country with one rate for one type of
goods/service. It has amalgamated a large number of Central and State taxes and cesses. It
has replaced large number of taxes on goods and services levied on production/sale of goods
or provision of service.
GST has simplified the multiplicity of taxes on goods and services.
The laws, procedures and rates of taxes across the country are standardized. It
has facilitated the freedom of movement of goods and services and created a
common market in the country.
It is aimed at reducing the cost of business operations and cascading effect of
various taxes on consumers. It has also reduced the overall cost of production,
which will make Indian products/services more competitive in the domestic and
international markets.
It will also result into higher economic growth as GDP is expected to rise by
about 2%.
Compliance will also be easier as all tax payment related services like
registration, returns, payments are available online through a common portal
gst.gov.in.
It has expanded the tax base, introduced higher transparency in the taxation
system, reduced human interface between Taxpayer and Government and is
furthering ease of doing business.
All the above statements are correct.
Question 6 of 10
6. Question
2 points
Which of the following is/are the components used to derive Personal Income (PI)?
National Income (NI)
Undistributed profits
Net interest payments made by households
Corporate tax
Transfer payments
Select the correct answer using the code given below:
Correct
Correct Answer : D
NNP at factor cost o National Income (NI) = NNP at market prices – (Indirect taxes –
Subsidies) = NNP at market prices – Net indirect taxes (Net indirect taxes o Indirect taxes –
Subsidies)
We can further subdivide the National Income into smaller categories. Let us try to find the
expression for the part of NI which is received by households. We shall call this Personal
Income (PI). First, let us note that out of NI, which is earned by the firms and government
enterprises, a part of profit is not distributed among the factors of production. This is called Undistributed Profits (UP).
Personal Income (PI) = NI – Undistributed profits – Net interest payments made by
households – Corporate tax + Transfer payments to the households from the
government and firms.
All the above are correct.
However, even PI is not the income over which the households have complete say. They have
to pay taxes from PI. If we deduct the Personal Tax Payments (income tax, for example) and
Non-tax Payments (such as fines) from PI, we obtain what is known as the Personal Disposable
Thus Personal Disposable Income (PDI) = PI – Personal tax payments – Non-tax
Personal Disposable Income is the part of the aggregate income which belongs to the
They may decide to consume a part of it, and save the rest.
Notice that the ratio of nominal GDP to real GDP gives us an idea of how the prices
have moved from the base year (the year whose prices are being used to calculate the
real GDP) to the current year. Hence, statement 2 is incorrect.
In the calculation of real and nominal GDP of the current year, the volume of production is
Therefore, if these measures differ it is only due to change in the price level between the
base year and the current year. The ratio of nominal to real GDP is a well-known index of
This is called GDP Deflator.
Incorrect
Correct Answer : D
NNP at factor cost o National Income (NI) = NNP at market prices – (Indirect taxes –
Subsidies) = NNP at market prices – Net indirect taxes (Net indirect taxes o Indirect taxes –
Subsidies)
We can further subdivide the National Income into smaller categories. Let us try to find the
expression for the part of NI which is received by households. We shall call this Personal
Income (PI). First, let us note that out of NI, which is earned by the firms and government
enterprises, a part of profit is not distributed among the factors of production. This is called Undistributed Profits (UP).
Personal Income (PI) = NI – Undistributed profits – Net interest payments made by
households – Corporate tax + Transfer payments to the households from the
government and firms.
All the above are correct.
However, even PI is not the income over which the households have complete say. They have
to pay taxes from PI. If we deduct the Personal Tax Payments (income tax, for example) and
Non-tax Payments (such as fines) from PI, we obtain what is known as the Personal Disposable
Thus Personal Disposable Income (PDI) = PI – Personal tax payments – Non-tax
Personal Disposable Income is the part of the aggregate income which belongs to the
They may decide to consume a part of it, and save the rest.
Notice that the ratio of nominal GDP to real GDP gives us an idea of how the prices
have moved from the base year (the year whose prices are being used to calculate the
real GDP) to the current year. Hence, statement 2 is incorrect.
In the calculation of real and nominal GDP of the current year, the volume of production is
Therefore, if these measures differ it is only due to change in the price level between the
base year and the current year. The ratio of nominal to real GDP is a well-known index of
This is called GDP Deflator.
Question 7 of 10
7. Question
2 points
Consider the following statements regarding CPI and GDP deflator
The weights are constant in both CPI and GDP deflator.
The goods purchased by consumers (CPI) do not represent all the goods which are produced in
a country.
GDP deflator does not include prices of imported goods.
Which of the statements given above are correct?
Correct
Correct Answer : B
CPI (and analogously WPI) may differ from GDP deflator because
The goods purchased by consumers do not represent all the goods which are
produced in a country. GDP deflator takes into account all such goods and services.
Hence, statement 2 is correct.
CPI includes prices of goods consumed by the representative consumer; hence it
includes prices of imported goods. GDP deflator does not include prices of imported
The weights are constant in CPI – but they differ according to production level of
each good in GDP deflator.
Incorrect
Correct Answer : B
CPI (and analogously WPI) may differ from GDP deflator because
The goods purchased by consumers do not represent all the goods which are
produced in a country. GDP deflator takes into account all such goods and services.
Hence, statement 2 is correct.
CPI includes prices of goods consumed by the representative consumer; hence it
includes prices of imported goods. GDP deflator does not include prices of imported
The weights are constant in CPI – but they differ according to production level of
each good in GDP deflator.
Question 8 of 10
8. Question
2 points
Consider the following statements regarding Gross Domestic product (GDP)
If the GDP of the country is rising, the welfare will rise as a consequence.
Many activities in an economy are not evaluated in monetary terms and hence, they are not
included in calculating GDP.
Which of the statements given above is/are correct?
Correct
Correct Answer : B
Answer Justification :
GDP is the sum total of value of goods and services created within the geographical boundary
of a country in a particular year. It gets distributed among the people as incomes (except for
retained earnings). So we may be tempted to treat higher level of GDP of a country as an index
of greater well-being of the people of that country (to account for price changes, we may take
the value of real GDP instead of nominal GDP).
But there are at least three reasons why this may not be correct.
Distribution of GDP – how uniform is it: If the GDP of the country is rising, the welfare may not rise as a consequence. Hence, statement 1 is incorrect. This is because the rise in GDP may be concentrated in the hands of very few individuals or firms. For the rest, the income may in fact have fallen. In such a case the welfare of the entire country cannot be said to have increased.
Non-monetary exchanges: Many activities in an economy are not evaluated in monetary terms. For example, the domestic services women perform at home are not paid for. The exchanges which take place in the informal sector without the help of money are called barter exchanges. In barter exchanges, goods (or services) are directly exchanged against each other. But since money is not being used here, these exchanges are not registered as part of economic activity.
Externalities: Externalities refer to the benefits (or harms) a firm or an individual causes to another for which they are not paid (or penalised). Externalities do not have any market in which they can be bought and sold.
Incorrect
Correct Answer : B
Answer Justification :
GDP is the sum total of value of goods and services created within the geographical boundary
of a country in a particular year. It gets distributed among the people as incomes (except for
retained earnings). So we may be tempted to treat higher level of GDP of a country as an index
of greater well-being of the people of that country (to account for price changes, we may take
the value of real GDP instead of nominal GDP).
But there are at least three reasons why this may not be correct.
Distribution of GDP – how uniform is it: If the GDP of the country is rising, the welfare may not rise as a consequence. Hence, statement 1 is incorrect. This is because the rise in GDP may be concentrated in the hands of very few individuals or firms. For the rest, the income may in fact have fallen. In such a case the welfare of the entire country cannot be said to have increased.
Non-monetary exchanges: Many activities in an economy are not evaluated in monetary terms. For example, the domestic services women perform at home are not paid for. The exchanges which take place in the informal sector without the help of money are called barter exchanges. In barter exchanges, goods (or services) are directly exchanged against each other. But since money is not being used here, these exchanges are not registered as part of economic activity.
Externalities: Externalities refer to the benefits (or harms) a firm or an individual causes to another for which they are not paid (or penalised). Externalities do not have any market in which they can be bought and sold.
Question 9 of 10
9. Question
2 points
Which of the following forms the part of assets of any bank?
Reserves
Loans
Deposits
Which of the statements given above are correct?
Correct
Correct Answer : A
Banks can lend simply because they do not expect all the depositors to withdraw what they
have deposited at the same time. When the banks lend to any person, a new deposit is opened
in that person’s name. Thus money supply increases to old deposits plus new deposit (plus
) Let us take an example. Assume that there is only one bank in the country. Let us
construct a fictional balance sheet for this bank. Balance sheet is a record of assets and
liabilities of any firm. Conventionally, the assets of the firm are recorded on the left-hand side
and liabilities on the right-hand side. Accounting rules say that both sides of the balance sheet
must be equal or total assets must be equal to the total liabilities. Assets are things a firm
owns or what a firm can claim from others. In case of a bank, apart from buildings, furniture,
, its assets are loans given to public. When the bank gives out loan of Rs 100 to a person,
this is the bank’s claim on that person for Rs 100. Another asset that a bank has is reserves.
Reserves are deposits which commercial banks keep with the Central bank, Reserve Bank of
India (RBI) and its cash. These reserves are kept partly as cash and partly in the form of
financial instruments (bonds and treasury bills) issued by the RBI. Reserves are similar to
deposits we keep with banks. We keep deposits and these deposits are our assets, they can be
withdrawn by us. Similarly, commercial banks like State Bank of India (SBI) keep their
deposits with RBI and these are called Reserves.
Assets = Reserves + Loans
Liabilities for any firm are its debts or what it owes to others. For a bank, the main
liability is the deposits which people keep with it. Hence, statement 3 is incorrect.
Liabilities = Deposits
Incorrect
Correct Answer : A
Banks can lend simply because they do not expect all the depositors to withdraw what they
have deposited at the same time. When the banks lend to any person, a new deposit is opened
in that person’s name. Thus money supply increases to old deposits plus new deposit (plus
) Let us take an example. Assume that there is only one bank in the country. Let us
construct a fictional balance sheet for this bank. Balance sheet is a record of assets and
liabilities of any firm. Conventionally, the assets of the firm are recorded on the left-hand side
and liabilities on the right-hand side. Accounting rules say that both sides of the balance sheet
must be equal or total assets must be equal to the total liabilities. Assets are things a firm
owns or what a firm can claim from others. In case of a bank, apart from buildings, furniture,
, its assets are loans given to public. When the bank gives out loan of Rs 100 to a person,
this is the bank’s claim on that person for Rs 100. Another asset that a bank has is reserves.
Reserves are deposits which commercial banks keep with the Central bank, Reserve Bank of
India (RBI) and its cash. These reserves are kept partly as cash and partly in the form of
financial instruments (bonds and treasury bills) issued by the RBI. Reserves are similar to
deposits we keep with banks. We keep deposits and these deposits are our assets, they can be
withdrawn by us. Similarly, commercial banks like State Bank of India (SBI) keep their
deposits with RBI and these are called Reserves.
Assets = Reserves + Loans
Liabilities for any firm are its debts or what it owes to others. For a bank, the main
liability is the deposits which people keep with it. Hence, statement 3 is incorrect.
Liabilities = Deposits
Question 10 of 10
10. Question
2 points
Consider the following statements regarding Open Market Operations
Open Market Operations refers to buying and selling of bonds issued by the Government in the open market.
Selling of a bond by RBI leads to increases in the total amount of reserves in the economy and thus increases the money supply.
Which of the statements given above is/are correct?
Correct
Correct Answer : A
Answer Justification :
Open Market Operations refers to buying and selling of bonds issued by the
Government in the open market. This purchase and sale is entrusted to the Central bank on
behalf of the Government. 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. Selling of a bond by RBI (to private individuals or
institutions) leads to reduction in quantity of reserves and hence the money supply.
Hence, statement 2 is incorrect.
There are two types of open market operations: outright and repo. Outright open market
operations are permanent in nature: when the central bank buys these securities (thus
injecting money into the system), it is without any promise to sell them later. Similarly, when
the central bank sells these securities (thus withdrawing money from the system), it is without
any promise to buy them later. As a result, the injection/absorption of the money is of
permanent nature.
However, there is another type of operation in which when the central bank buys the security,
this agreement of purchase also has specification about date and price of resale of this
This type of agreement is called a repurchase agreement or repo. The interest rate at
which the money is lent in this way is called the repo rate. Similarly, instead of outright sale of
securities the central bank may sell the securities through an agreement which has a
specification about the date and price at which it will be repurchased. This type of agreement
is called a reverse repurchase agreement or reverse repo. The rate at which the money is
withdrawn in this manner is called the reverse repo rate.
Incorrect
Correct Answer : A
Answer Justification :
Open Market Operations refers to buying and selling of bonds issued by the
Government in the open market. This purchase and sale is entrusted to the Central bank on
behalf of the Government. 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. Selling of a bond by RBI (to private individuals or
institutions) leads to reduction in quantity of reserves and hence the money supply.
Hence, statement 2 is incorrect.
There are two types of open market operations: outright and repo. Outright open market
operations are permanent in nature: when the central bank buys these securities (thus
injecting money into the system), it is without any promise to sell them later. Similarly, when
the central bank sells these securities (thus withdrawing money from the system), it is without
any promise to buy them later. As a result, the injection/absorption of the money is of
permanent nature.
However, there is another type of operation in which when the central bank buys the security,
this agreement of purchase also has specification about date and price of resale of this
This type of agreement is called a repurchase agreement or repo. The interest rate at
which the money is lent in this way is called the repo rate. Similarly, instead of outright sale of
securities the central bank may sell the securities through an agreement which has a
specification about the date and price at which it will be repurchased. This type of agreement
is called a reverse repurchase agreement or reverse repo. The rate at which the money is
withdrawn in this manner is called the reverse repo rate.
