Central banks and inflation — UPSC Prelims PYQ 2023 (are both statements...

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?

Both Statement-I and Statement-II are correct and Statement-II is the correct explanation for Statement-I
Both Statement-I and Statement-II are correct and Statement-II is not the correct explanation for Statement-I
Statement-I is correct but Statement-II is incorrect
Statement-I is incorrect but Statement-II is correct

Explanation

Both Statement-I and Statement-II are correct and Statement-II is the correct explanation for Statement I

In the post-pandemic recent past, numerous central banks globally increased interest rates primarily to combat rising inflation. Central banks typically believe they can manage inflation through various monetary policy tools. Raising rates increases borrowing costs, which can lead to reduced spending and investment. Central Banks generally assume they can counteract rising consumer prices through monetary policy. Monetary policy can’t resolve the remaining pandemic-related bottlenecks in global supply chains and the disruptions in commodity markets caused by the war in Ukraine. It can, however, slow overall demand to address demand-related inflationary pressures, so a tightening of financial conditions is the goal.

Line and bar chart showing number of central banks hiking or cutting interest rates from 2015 to 2022, highlighting a sharp increase in rate hikes in 2022 amid rising inflation. Bars represent advanced economies and emerging markets with orange for hikes and blue for cuts, while a black line tracks net changes, illustrating a shift from monetary easing to tightening

Additional Information: Monetary Policy

It is a macroeconomic policy.
It is a policy related to money supply in the economy.
In India, the RBI manages the money supply through Quantitative and Qualitative instruments.
Quantitative instruments influence the total volume of credit [Money Supply].
Qualitative instruments are used to influence the availability of credit among various types of borrowers.
While managing money supply, the RBI keeps inflation and economic growth in mind primarily.

A two-column comparison table contrasting quantitative and qualitative monetary policy instruments, highlighting their meanings, alternative names, and specific tools. Quantitative instruments include bank rate, repo rate, and cash reserve ratio, while qualitative instruments feature marginal requirement, moral suasion, and selective credit control, with color-coded sections for clarity