Intervention by the monetary authority of a country in the money market to keep money supply stable against exogenous or sometimes external shocks is called _____.
Show answer & explanation
Correct answer: A
Explanation
The correct answer is option 1 i.e. sterilisation.
- Sterilization is the intervention by a country’s monetary authority, usually the central bank, in the money market to stabilize the money supply when external factors, such as capital inflows or outflows, affect it.
- This process ensures that changes in the foreign exchange reserves do not directly impact the domestic money supply.
- It works by buying or selling government securities to offset the effects of such external shocks.
- For example, if a country experiences high foreign capital inflows, the central bank may sell bonds to prevent an increase in money supply, which could lead to inflation.
- Sterilization is crucial for maintaining price stability, controlling inflation, and ensuring economic stability. An example is when the Reserve Bank of India sterilizes foreign exchange inflows to prevent excessive inflationary pressures.