UPSC Prelims 2024 CSAT Paper II · Q4 of 79 Comprehension medium

Passage

Passage-2 As inflation rises, even governments previously committed to budget discipline are spending freely to help households. Higher interest rates announced by central banks are supposed to help produce modest fiscal austerity, because to maintain stable debts while paying more to borrow, governments must cut spending or raise taxes. Without the fiscal backup, monetary policy eventually loses traction. Higher interest rates become inflationary, not disinflationary, because they simply lead governments to borrow more to pay rising debt-service costs. The risk of monetary unmooring is greater when public debt rises, because interest rates become more important to budget deficits.

Based on the above passage, the following assumptions have been made : 1. Fiscal policies of governments are solely responsible for higher prices. 2. Higher prices do not affect the long-term government bonds. Which of the assumptions given above is/are valid?

  1. (a) 1 only
  2. (b) 2 only
  3. (c) Both 1 and 2
  4. (d) Neither 1 nor 2 ✓ UPSC's answer

Why the answer is (d)

['- Assumption 1 is invalid because the passage attributes rising prices (inflation) to a combination of factors, including central bank interest rates and government borrowing, not solely to fiscal policies.', '- The text explicitly states that higher interest rates lead governments to borrow more to pay rising debt-service costs, which directly impacts the demand and pricing of government bonds.', '- Assumption 2 is invalid because the passage highlights that as public debt rises, interest rates become more important to budget deficits, implying a direct link between inflationary pressures and the cost of servicing long-term government debt.', '- Since the passage describes a complex interplay between monetary policy, fiscal spending, and debt sustainability, it does not support the isolation of fiscal policy as the sole cause of inflation.', '- Therefore, neither assumption accurately reflects the causal relationships or economic mechanisms described in the text, leading to the conclusion that both are invalid.']

Why the other options are wrong

(a) 1 only
Assumption 1 is incorrect because the passage indicates that monetary policy and debt dynamics also contribute to inflation, not just fiscal policy.
(b) 2 only
Assumption 2 is incorrect because the passage states that higher interest rates and rising debt make interest rates critical to budget deficits, directly affecting government bonds.
(c) Both 1 and 2
Both assumptions are invalid as the passage refutes the idea that fiscal policy is the sole cause of inflation and confirms that debt dynamics affect government bonds.

Asked in the CSAT Paper II of the UPSC Civil Services Preliminary Examination 2024, held on 16 June 2024. Question and answer key: Union Public Service Commission. Explanation: UPSC Answer Check.

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