Question:
Given below is a pair of events I and II. You have to decide their nature of relationship. Assume that the given information is correct and final.
I. Inflation rate in India has come down
II. Reserve Bank of India has increased interest rate.
Given below is a pair of events I and II. You have to decide their nature of relationship. Assume that the given information is correct and final.
I. Inflation rate in India has come down
II. Reserve Bank of India has increased interest rate.
I. Inflation rate in India has come down
II. Reserve Bank of India has increased interest rate.
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Ask why a central bank raises interest rates in the first place. The reason for the action tells you which event is the effect.
Updated On: Jul 17, 2026
- I is the main cause and II is the main effect
- I is effect but II is not the main cause
- II is the main cause and I is the main effect
- II is an effect but I is not the main cause
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The Correct Option is C
Solution and Explanation
Step 1: Understanding the Question:
We are given a fall in the inflation rate and a rise in the interest rate set by the Reserve Bank of India. We must decide which of the two brought the other about.
Step 2: Key Approach:
Recall the basic monetary policy link between interest rates and inflation, then check which direction of causation fits that link.
Step 3: Detailed Explanation:
Inflation is a sustained rise in the general price level. One standard reason for it is too much money chasing too few goods.
The Reserve Bank of India controls the cost of borrowing. When it raises the interest rate, loans become costlier for banks and therefore for households and firms. People borrow less and spend less, firms postpone expansion, and saving becomes more attractive. Demand in the economy cools. With demand cooling, the upward pressure on prices eases and the inflation rate comes down.
So raising the interest rate is a recognised tool for pulling inflation down. II causes I.
Now check the other direction. If inflation had already come down on its own, would the RBI raise the interest rate? No. A central bank raises rates to fight inflation, and once inflation is falling it would normally hold the rate steady or cut it. So I causing II makes no sense.
II is the main cause and I is the main effect, which is option (C).
Step 4: Why the other options fail:
(A) reverses the real chain. Falling inflation is not a reason to hike rates.
(B) admits I is an effect but denies II as the cause. Since a rate hike is the textbook cause of falling inflation, there is no ground to look elsewhere.
(D) treats the RBI's rate hike as an effect of the inflation fall, which puts the policy action after its own purpose.
Step 5: Final Answer:
The answer is option (C): II is the main cause and I is the main effect.
We are given a fall in the inflation rate and a rise in the interest rate set by the Reserve Bank of India. We must decide which of the two brought the other about.
Step 2: Key Approach:
Recall the basic monetary policy link between interest rates and inflation, then check which direction of causation fits that link.
Step 3: Detailed Explanation:
Inflation is a sustained rise in the general price level. One standard reason for it is too much money chasing too few goods.
The Reserve Bank of India controls the cost of borrowing. When it raises the interest rate, loans become costlier for banks and therefore for households and firms. People borrow less and spend less, firms postpone expansion, and saving becomes more attractive. Demand in the economy cools. With demand cooling, the upward pressure on prices eases and the inflation rate comes down.
So raising the interest rate is a recognised tool for pulling inflation down. II causes I.
Now check the other direction. If inflation had already come down on its own, would the RBI raise the interest rate? No. A central bank raises rates to fight inflation, and once inflation is falling it would normally hold the rate steady or cut it. So I causing II makes no sense.
II is the main cause and I is the main effect, which is option (C).
Step 4: Why the other options fail:
(A) reverses the real chain. Falling inflation is not a reason to hike rates.
(B) admits I is an effect but denies II as the cause. Since a rate hike is the textbook cause of falling inflation, there is no ground to look elsewhere.
(D) treats the RBI's rate hike as an effect of the inflation fall, which puts the policy action after its own purpose.
Step 5: Final Answer:
The answer is option (C): II is the main cause and I is the main effect.
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