Question
Which one of the following activities of the Reserve Bank of India is considered to be part of 'sterilization '?
(a) Conducting 'Open Market Operations '
(b) Oversight of settlement and payment systems
(c) Debt and cash management for the Central and State Governments
(d) Regulating the functions of Non-banking Financial Institutions
Answer:
A
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Explanation:
Sterilization refers to the actions taken by a central bank, such as the Reserve Bank of India (RBI), to offset the impact of its foreign exchange interventions on the domestic money supply. When the RBI buys or sells foreign currency, it affects the supply of domestic currency in the economy. Sterilization is the process of neutralizing this impact to maintain stability in the money market.
One of the tools used by the RBI for sterilization is conducting 'Open Market Operations' (OMOs). In OMOs, the RBI buys or sells government securities in the open market to adjust the liquidity in the banking system. By buying government securities, the RBI injects liquidity into the market, offsetting the decrease in money supply caused by its foreign exchange purchases. Conversely, by selling government securities, the RBI absorbs liquidity, offsetting the increase in money supply caused by its foreign exchange sales.