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Consider the following statements : Statement-I : In the post-pandemic recent past, many Central Banks worldwide had carried out interest rate hikes. Statement-II : Central Banks generally assume that they have the ability to counteract the rising consumer prices via monetary policy means. Which one of the following is correct in respect of the above statements?
Explanation
The correct answer is Option 1. This is because both statements are factually accurate, and Statement-II provides the underlying logical rationale for the actions described in Statement-I.
- Statement-I is correct: Following the COVID-19 pandemic, global economies faced high inflation due to supply chain disruptions and pent-up demand. Consequently, major Central Banks (like the US Federal Reserve and the RBI) aggressively hiked interest rates to stabilize their economies.
- Statement-II is correct: It reflects the fundamental principle of monetary policy. Central Banks operate on the premise that increasing interest rates reduces liquidity, discourages excessive borrowing, and cools down demand, thereby controlling rising consumer prices (inflation).
Connection: Statement-II explains the "why" behind Statement-I. Central Banks hiked rates specifically because they assume these monetary tools are effective instruments to counteract inflationary pressures. Thus, Statement-II is the correct explanation for the actions taken in Statement-I.
PROVENANCE & STUDY PATTERN
Guest previewThis is the quintessential 'Applied Macroeconomics' question. It fuses the biggest headline of the year (Global Rate Hikes) with the most basic chapter of the syllabus (Monetary Policy Theory). Strategy: Never read a financial headline without mapping it back to the static 'Why'āin this case, the transmission mechanism.
This question can be broken into the following sub-statements. Tap a statement sentence to jump into its detailed analysis.
Web source
Presence: 5/5
"In the post-pandemic recent past, many Central Banks worldwide had carried out interest rate hikes."
Why this source?
- Directly states that many central banks worldwide carried out interest rate hikes in the post-pandemic period.
- Explicitly ties the timing to the 'post-pandemic recent past,' matching the 2021ā2023 period in the statement.
Web source
Presence: 5/5
"As central banks accelerated interest rate hikes, several financial institutions and sectors came under stress (such as the liability-driven investment sector in the UK, regional banks in the US, and Credit Suisse in Europe)."
Why this source?
- Describes central banks 'accelerat[ing] interest rate hikes,' indicating widespread tightening actions.
- Notes consequences across multiple jurisdictions, implying these hikes were implemented by many banks.
Web source
Presence: 4/5
"Central bank responses to the postāCOVID period of high inflation: The case of Australia ... The Bank of Canadaās response to post-COVID inflation ... The Bank of Japan's monetary policy in response to surging global inflation ... The Federal Reserveās responses to the post-COVID period of high inflation ... The Central Bank of Brazilās response to the post-pandemic"
Why this source?
- Collects multiple case studies titled 'Central bank responses to the postāCOVID period of high inflation,' covering many national banks (Australia, Canada, euro area, Japan, Sweden, Switzerland, US, Brazil).
- The breadth of listed central bank responses implies coordinated or widespread policy actions in response to post-COVID inflation.
- Directly states that many central banks worldwide carried out interest rate hikes in the post-pandemic period.
- Explicitly ties the timing to the 'post-pandemic recent past,' matching the 2021ā2023 period in the statement.
- Describes central banks 'accelerat[ing] interest rate hikes,' indicating widespread tightening actions.
- Notes consequences across multiple jurisdictions, implying these hikes were implemented by many banks.
- Collects multiple case studies titled 'Central bank responses to the postāCOVID period of high inflation,' covering many national banks (Australia, Canada, euro area, Japan, Sweden, Switzerland, US, Brazil).
- The breadth of listed central bank responses implies coordinated or widespread policy actions in response to post-COVID inflation.
Indian Economy, Nitin Singhania .(ed 2nd 2021-22) > Chapter 7: Money and Banking > COVID-19-SPECIFIC MAJOR MONETARY POLICY MEASURES WORLDWIDE > p. 171
Strength: 4/5
āCOVID-19 pandemic has caused a crisis for the global economy and markets. In response to this crisis, Governments and Central Banks worldwide have enacted some innovative fiscal and monetary stimulus measures to counteract the disruption in the economy. Some of these monetary policy measures are enumerated below: monetary policy measures are enumerated below:<br> By Reserve Bank of India It was introduced by the bank during some weeks. ā¢ RBI launched a 'Targeted Long Term Repo Operation' (TLTRO) which allows repurchase agreements on investment grade bonds, commercial paper and another debt instrument called Non-Convertible Debentures (NCDs). ā¢ RBI increased its lending facility for State Governments and raised the ability of State Governments to overdraft in April, 2020. ā¢ RBI has also extended special liquidity facilities for national lending institutions like NABARD, SIDBI and the National Housing Bank (NHB)ā
Why relevant
States that governments and central banks worldwide enacted monetary stimulus measures in response to COVIDā19, indicating a prior phase of accommodation.
How to extend
A student could note that an earlier global easing creates a plausible policy cycle where central banks later tighten (e.g., raise rates) as conditions normalise, and then check 2021ā23 rate data by country/region.
Indian Economy, Nitin Singhania .(ed 2nd 2021-22) > Chapter 18: International Economic Institutions > Findings of the latest available October 2020 GFSR: > p. 520
Strength: 5/5
āā¢ The report made an attempt to assess the impact of COVID-19 pandemic on the economic performance of nations.
ā¢ As per report, what should policy makers do when the pandemic is under control:
ā¢ 1. Gradually withdrawing liquidity support.
ā¢ 2. Banks to implement credit provisions to rebuild capital and liquidity buffers.
ā¢ 3. Recapitalise, restructure or resolve nonviable firms.
ā¢ 4. Digitalisation.
ā¢ 5. Focus on green investmentsā
Why relevant
Summarises a policy recommendation (from GFSR) that when the pandemic is under control authorities should 'gradually withdraw liquidity support.'
How to extend
Withdrawing liquidity support is often implemented via raising policy rates or reversing asset purchases; a student could therefore look for announcements of rate hikes in 2021ā23 as the pandemic waned.
Indian Economy, Nitin Singhania .(ed 2nd 2021-22) > Chapter 8: Financial Market > LIQUIDITY COVERAGE RATIO > p. 236
Strength: 4/5
āHowever, as a COVID-19 measure, RBI in 2020 has reduced LCR requirement of Banks from 100 per cent to: ā¢ From date of circular to 30 September 2020: 1 October 2020 to 31 March 2021; 80%: 90% ā¢ From date of circular to 30 September 2020: 1 April 2021 onwards; 80%: 100%ā
Why relevant
Documents a specific COVIDā19 easing: the RBI temporarily reduced banks' Liquidity Coverage Ratio (LCR) requirements in 2020 and phased them back later.
How to extend
This concrete example of regulatory easing and later restoration suggests a broader pattern (ease in 2020, normalise later) that a student can test by examining whether central banks moved from easing to tightening in 2021ā23.
Indian Economy, Nitin Singhania .(ed 2nd 2021-22) > Chapter 7: Money and Banking > LONG TERM REPO OPERATIONS (LTROs) > p. 167
Strength: 3/5
āMoney and Banking 7.11 (NDTL) outstanding at the end of second preceding fortnight, against government securities as collateral. This facility is in addition to loans on repo rate. The minimum amount which can be accessed through MSF is ā¹1 crore and in multiples of ā¹1 crore. The rate of interest under MSF is 25 basis points (i.e. 0.25%) above the repo rate. MSF rate of interest on 5 February 2021 stood at 4.25 per cent. The borrowing limit of 2 per cent of the Net Demand and Time Liabilities (NDTL) under MSF has been increased to 3 per cent by RBI in April 2020 as one of the measures to reduce the economic impact of COVID-19.ā
Why relevant
Records another accommodative step (increasing MSF borrowing limit and referencing MSF interest relative to the repo rate) taken in April 2020 to reduce COVIDā19 impact.
How to extend
Shows central bank support measures and provides a baseline (accommodation in 2020) that a student could contrast with central bank policy statements and policy interest series for 2021ā23 to detect hikes.
States that governments and central banks worldwide enacted monetary stimulus measures in response to COVIDā19, indicating a prior phase of accommodation.
A student could note that an earlier global easing creates a plausible policy cycle where central banks later tighten (e.g., raise rates) as conditions normalise, and then check 2021ā23 rate data by country/region.
Summarises a policy recommendation (from GFSR) that when the pandemic is under control authorities should 'gradually withdraw liquidity support.'
Withdrawing liquidity support is often implemented via raising policy rates or reversing asset purchases; a student could therefore look for announcements of rate hikes in 2021ā23 as the pandemic waned.
Documents a specific COVIDā19 easing: the RBI temporarily reduced banks' Liquidity Coverage Ratio (LCR) requirements in 2020 and phased them back later.
This concrete example of regulatory easing and later restoration suggests a broader pattern (ease in 2020, normalise later) that a student can test by examining whether central banks moved from easing to tightening in 2021ā23.
Records another accommodative step (increasing MSF borrowing limit and referencing MSF interest relative to the repo rate) taken in April 2020 to reduce COVIDā19 impact.
Shows central bank support measures and provides a baseline (accommodation in 2020) that a student could contrast with central bank policy statements and policy interest series for 2021ā23 to detect hikes.
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