Which one of the following activities of the Reserve Bank of India is considered to be part of 'sterilization'?

(a) Conducting 'Open Market Operations' ✓ UPSC's answer
(b) Oversight of settlement and payment systems
(c) Debt and cash management for the Central and State Governments
(d) Regulating the functions of Non-banking Financial Institutions

Why the answer is (a)

• Sterilisation is the RBI's practice of offsetting the effect of its foreign-exchange interventions on domestic money supply.

• When the RBI buys dollars to prevent rupee appreciation, it injects rupees; to 'sterilise' that liquidity it sells government securities through Open Market Operations (or under the Market Stabilisation Scheme), absorbing the extra rupees — option (a).

• Oversight of payment systems, debt and cash management for governments, and regulation of NBFCs are other RBI functions unrelated to sterilisation.

• Sterilisation lets the RBI manage the exchange rate without losing control of inflation.

• Hence option (a).

Why the other options are wrong

(b) Oversight of settlement and payment systems: Payment-system oversight is a supervisory function, not sterilisation.
(c) Debt and cash management for the Central and State Governments: Government debt management is a banker-to-government role, not sterilisation.
(d) Regulating the functions of Non-banking Financial Institutions: NBFC regulation is unrelated to offsetting forex interventions.

Asked in the GS Paper I of the UPSC Civil Services Preliminary Examination 2023, held on 28 May 2023. Question and answer key: Union Public Service Commission. Explanation: UPSC Answer Check.