In November 2008, the Reserve Bank of India (RBI) lowered its "repo" rate, the rate at which it lends to banks, from 8 percent to 7.5 percent. Only two weeks earlier, it had lowered the rate from 9 percent to 8 percent.
The Economist, 11/6/200
In its attempt to change real GDP, which of following sequences correctly describes the transmission RBI's monetary policy?
i. the real interest rate falls
ii. the money supply increases
iii. bank reserves increase
iv. supply of loanable funds increases
v. aggregate demand increases

Question

Quizplus · Accepted Answer

When the RBI lowers its "repo" rate, it incentivizes banks to borrow more from the RBI, leading to an increase in bank reserves (iii) and the money supply (ii). This increase in the money supply leads to a fall in the real interest rate (i) and an increase in the supply of loanable funds (iv). With more loanable funds available, aggregate demand increases (v). Therefore, the correct sequence is iii, ii, iv, i, and v, which is only found in option B.

In November 2008, the Reserve Bank of India (RBI) Lowered