Question

“With the objective to correct deflation, the Reserve Bank of India may decrease the Bank Rate.” Discuss the rationale behind the step taken by the Reserve Bank of India (RBI).

Hint:

A lower Bank Rate reduces the cost of borrowing, stimulating demand in the economy.

Answer 1

Decreasing the Bank Rate encourages commercial banks to borrow more from the RBI. This leads to: Increased liquidity in the banking system. Lower lending rates for consumers and businesses, boosting borrowing and spending. Higher aggregate demand, which helps in correcting deflationary pressures. Thus, reducing the Bank Rate is an effective monetary policy tool to combat deflation.