Banking Sector in India: UPSC Previous Year Questions (Indian Economy)

Explanation

Statement I is correct: In the post-pandemic period, many central banks worldwide carried out interest rate hikes. This was primarily in response to rising inflation caused by supply chain disruptions, increased demand post-pandemic, and geopolitical tensions (such as the Russia-Ukraine conflict). For example:

The Reserve Bank of India (RBI) raised the repo rate multiple times in 2022 and 2023 to combat inflation. The repo rate was increased from a historic low of 4% during the pandemic to 6.5% by early 2023. Similarly, the US Federal Reserve and the European Central Bank also raised interest rates aggressively to curb inflation.

Statement II is correct: Central banks such as RBI assume that they can counteract rising consumer prices (inflation) through monetary policy tools such as increasing interest rates. Higher interest rates reduce borrowing and spending, which in turn helps to cool down demand and control inflation. This is a well-established principle of monetary policy. Both Statement-I and Statement-II are correct and Statement-II is the correct explanation for Statement-I: The inter-est rate hikes mentioned in Statement-I were explicitly carried out to counteract rising consumer prices (inflation), as stated in Statement-II.

Explanation

The Reserve Bank of India (RBI) employs Open Market Operations (OMOs) as a primary tool for sterilization. OMOs involve the buying and selling of government securities in the open market. When the RBI sells government securities, it absorbs liquidity from the banking system, effectively neutralizing the increase in money supply resulting from its foreign exchange interventions. This process helps in maintaining monetary stability and controlling inflation.

Explanation

Central Bank Digital Currencies (CBDCs) are digital forms of a country’s fiat currency which are issued and regulated by the central bank.

Statement 1 is correct: Central Bank Digital Currencies (CB-DCs) can operate independently unlike traditional cross-bor-der payments that rely on the US dollar as a reserve currency and the SWIFT (Society for Worldwide Interbank Financial Telecommunication) system for messaging. It can facilitate direct peer-to-peer (P2P) transactions or cross-border payments without intermediaries like SWIFT. Countries like China (with its digital yuan) and India (exploring the digital rupee) are developing CBDCs to reduce dependence on the US dollar and SWIFT for international transactions. The m-CBDC Bridge project which involves countries like China, Hong Kong, Thailand, and the UAE, is an example of how CB-DCs can enable cross-border payments without relying on the US dollar or SWIFT.

Statement 2 is correct: One of the key features of CBDCs is their programmability. Central banks can embed specific conditions into the digital currency using smart contracts or similar technologies. For instance: A government could issue a digital currency for welfare payments with an expiration date to ensure timely spending and boost economic activity. A CBDC could be programmed to be used only for specific purposes, such as healthcare or education.

Explanation

Statement 1 is incorrect: The SHG movement in In-dia was not initiated by the State Bank of India. The National Bank for Agriculture and Rural Development (NABARD) played a pivotal role in promoting and scaling up SHGs by providing financial support, capacity-building initiatives, and policy frameworks. In 1992, NABARD launched the SHG-Bank Linkage Programme which facilitated the integration of SHGs into the formal banking system.

Statement 2 is correct: All members of a Self-Help Group (SHG) share responsibility for any loans taken by individual members. This system fosters mutual support and peer account-ability thereby encouraging timely repayments and financial discipline. Generally banks extend loans to the SHG as a single entity, which then distributes funds among its members. In the event of a default, the group collectively ensures repayment, safeguarding its overall creditworthiness.

Statement 3 is correct: Regional Rural Banks (RRBs) and Scheduled Commercial Banks (SCBs) play a crucial role in supporting Self-Help Groups (SHGs). As part of the SHG-Bank Linkage Programme launched by NABARD in 1992, these banks extend financial services, including credit, savings, and insurance, to SHGs. This initiative has significantly improved financial inclusion, enabling marginalized communities, particularly rural women, to access formal banking services, build credit histories, and enhance their economic stability.