External sector and international economic institutions: previous-year questions
62 real UPSC Prelims questions (2011–2026) with the official answer and a clear explanation. 20 of them came in the last five papers.
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Questions per year, counted from the official papers.
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'European Stability Mechanism', sometimes seen in the news, is an
Answer (b) & explanation
The ESM lends to eurozone countries in financial trouble (b). The European Stability Mechanism was set up in 2012 as a permanent rescue fund for the eurozone after the sovereign debt crisis. It is based in Luxembourg and replaced the temporary EFSF. It lends to member states, with conditions on reforms. Greece, Spain, Cyprus and Portugal used it or its predecessor. It does not deal with refugees (a), which is FRONTEX's area. It does not handle trade agreements (c), which is the European Commission's job, and it does not settle disputes among members (d), which goes to the EU Court of Justice.
Notice the comparison: the ESM is like a regional IMF for the euro area, and it offers loans in exchange for strict reforms.
Answer as per the official UPSC answer key.
With reference to 'IFC Masala Bonds', sometimes seen in the news, which of the statements given below is/are correct?
- 1. The International Finance Corporation, which offers these bonds, is an arm of the World Bank.
- 2. They are the rupee-denominated bonds and are a source of debt financing for the public and private sector.
Select the correct answer using the code given below.
Answer (c) & explanation
Both are correct (c). The International Finance Corporation, the private-sector arm of the World Bank Group, first used the name "Masala bonds" in 2014 (1). They are rupee-denominated bonds issued abroad and serve as a source of debt financing (2).
Because they are in rupees, the foreign investor bears the currency risk, not the Indian borrower. HDFC and NTPC were among the early Indian issuers, and the Kerala Infrastructure Investment Fund Board also used them. Notice how this helps internationalise the rupee, along with steps such as rupee trade settlement.
Answer as per the official UPSC answer key.
In the context of which of the following do you sometimes find the terms 'amber box, blue box and green box' in the news?
Answer (a) & explanation
The terms belong to WTO affairs (a). The Agreement on Agriculture sorts farm subsidies into boxes. Amber box subsidies, such as price support, distort trade and are capped. Blue box subsidies are tied to production limits, and green box subsidies, such as research and environmental programmes, cause minimal distortion; neither is capped. SAARC (b), the UNFCCC (c) and India–EU FTA talks (d) do not use these terms.
Developing countries also have a de minimis allowance of 10% of production value. Notice how India's MSP procurement is debated within these rules, linked to the Peace Clause.
Answer as per the official UPSC answer key.
Recently, which one of the following currencies has been proposed to be added to the basket of IMF's SDR?
Answer (d) & explanation
In November 2015 the IMF decided to add the Chinese renminbi (yuan) to the SDR basket from 1 October 2016 (d). The rouble (a), rand (b) and Indian rupee (c) are not in the basket.
The basket now has five currencies: the US dollar, euro, renminbi, yen and pound sterling. The SDR is an international reserve asset created by the IMF in 1969, not a currency itself. Its basket is reviewed every five years. Notice how the renminbi's inclusion marked China's growing role in global finance.
Answer as per the official UPSC answer key.
With reference to the International Monetary and Financial Committee (IMFC), consider the following statements :
- 1. IMFC discusses matters of concern affecting the global economy, and advises the International Monetary Fund (IMF) on the direction of its work.
- 2. The World Bank participates as observer in IMFC's meetings.
Which of the statements given above is/are correct?
Answer (c) & explanation
Both are correct (c). The IMFC is a 24-member committee of the IMF Board of Governors, mostly finance ministers and central bank governors. It meets twice a year to discuss matters affecting the global economy and advises the IMF on the direction of its work (1). Several bodies, including the World Bank, attend its meetings as observers (2).
The parallel body for the World Bank is the Development Committee. Both meet during the IMF–World Bank Spring and Annual Meetings. Notice how the Bretton Woods twins coordinate their work through such committees.
Answer as per the official UPSC answer key.
Which one of the following issues the 'Global Economic Prospects' report periodically?
Answer (d) & explanation
The World Bank publishes Global Economic Prospects twice a year, in January and June (d). The Asian Development Bank (a) publishes the Asian Development Outlook. The EBRD (b) publishes its own Regional Economic Prospects for its region, and the US Federal Reserve (c) issues monetary policy statements, not this report.
Do not confuse it with the IMF's World Economic Outlook and Global Financial Stability Report. The World Bank also publishes the World Development Report. Notice how UPSC repeatedly tests which body publishes which report; a small table of reports and publishers is well worth keeping.
Answer as per the official UPSC answer key.
The terms 'Agreement on Agriculture', 'Agreement on the Application of Sanitary and Phytosanitary Measures' and 'Peace Clause' appear in the news frequently in the context of the affairs of the
Answer (c) & explanation
All three terms belong to the WTO (c). The Agreement on Agriculture limits trade-distorting farm subsidies. The SPS Agreement governs food safety and animal and plant health rules. The Peace Clause (Bali, 2013) protects developing countries from legal challenge if their public stockholding for food security breaches subsidy limits. The FAO (a), UNFCCC (b) and UNEP (d) do not use these terms.
India secured the Peace Clause to protect MSP procurement and the PDS, and has invoked it for rice. Notice how domestic food security links directly to global trade rules.
Answer as per the official UPSC answer key.
Convertibility of rupee implies
Answer (c) & explanation
Convertibility means the freedom to change rupees into foreign currency and back at market rates (c). Option (a) describes the old gold standard, not convertibility. Option (b) describes a floating exchange rate, a separate idea. Option (d), building a currency market, is not what the term means.
India has had full current account convertibility since August 1994, covering trade, travel and remittances, but only partial capital account convertibility, as advised by the Tarapore committees. Notice how caution here helped India avoid the worst of the 1997 Asian financial crisis.
Answer as per the official UPSC answer key.
The problem of international liquidity is related to the non-availability of
Answer (c) & explanation
International liquidity means the stock of assets accepted for settling international payments: US dollars and other hard currencies, plus gold, SDRs and IMF reserve positions. So the problem relates to their non-availability (c). A shortage of goods and services (a) or an exportable surplus (d) affects trade but is not liquidity itself. Gold and silver (b) are only part of the story; silver plays no role today.
India faced a severe liquidity crisis in 1991, when reserves fell to about two weeks of imports and gold was pledged. Notice how this led to the economic reforms and why forex reserves matter.
Answer as per the official UPSC answer key.
With reference to Balance of Payments, which of the following constitutes/constitute the Current Account?
- 1. Balance of trade
- 2. Foreign assets
- 3. Balance of invisibles
- 4. Special Drawing Rights
Select the correct answer using the code given below.
Answer (c) & explanation
The current account = balance of trade in goods + the balance of invisibles (services, income such as interest and dividends, and transfers such as remittances). So 1 and 3 are correct (c). Foreign assets belong to the capital and financial account, and Special Drawing Rights are part of official foreign exchange reserves, so options with 2 or 4 fail.
India usually runs a trade deficit in goods that is partly offset by a surplus in software services and remittances, India being the world's largest recipient. Notice how the current account deficit links trade, the rupee's value and the stability of the whole economy.
Answer as per the official UPSC answer key.
Which of the following organizations brings out the publication known as 'World Economic Outlook'?
Answer (a) & explanation
The IMF publishes the World Economic Outlook twice a year, in April and October, with updates in between (a). The World Bank (d) publishes Global Economic Prospects and earlier the Ease of Doing Business report. The UNDP (b) publishes the Human Development Report. The World Economic Forum (c) publishes the Global Competitiveness and Global Gender Gap reports.
The IMF also publishes the Global Financial Stability Report and the Fiscal Monitor. Notice how matching reports to their publishers is one of UPSC's most repeated themes; a short table saves easy marks.
Answer as per the official UPSC answer key.
Which one of the following groups of items is included in India’s foreign-exchange reserves?
Answer (b) & explanation
Foreign-currency assets, gold and SDRs is correct (b). India's foreign-exchange reserves have four parts: foreign currency assets (the largest, held in dollars, euros and others), gold held by the RBI, Special Drawing Rights, and the reserve tranche position in the IMF. (a), (c) and (d) are wrong because loans from foreign countries or the World Bank are liabilities, not reserves.
Notice the scale: India's reserves have been in the range of US$650–700 billion, among the world's largest; they hit a record above US$700 billion in September 2024. The RBI has been adding gold and brought tonnes back from the Bank of England in 2024. In 1991, reserves fell to about two weeks of imports, forcing gold to be pledged. Trap: borrowed money boosts liquidity but is not a reserve asset.
Answer as per the official UPSC answer key.
The balance of payments of a country is a systematic record of
Answer (a) & explanation
Option (a) is correct. The balance of payments is a systematic record of all economic transactions between a country's residents and the rest of the world over a period, usually a year. It covers the current account, with trade in goods and services, income and transfers such as remittances, and the capital and financial account, with FDI, portfolio flows, loans and changes in reserves. (b), (c) and (d) are wrong because each describes only a part of the BoP: exports alone, government transactions alone or capital movements alone.
Notice India's pattern: a large merchandise trade deficit, offset by strong services exports (about US$387 billion in 2024–25) and remittances (about US$135 billion, the world's highest), keeps the current account deficit small. Trap: the stem's 'import and export' wording means all transactions, not goods only.
Answer as per the official UPSC answer key.
Which of the following constitute Capital Account?
- 1. Foreign Loans
- 2. Foreign Direct Investment
- 3. Private Remittances
- 4. Portfolio Investment
Select the correct answer using the codes given below.
Answer (b) & explanation
Items 1, 2 and 4 are correct (b). The capital account (strictly the capital and financial account) records flows that create assets or liabilities: foreign loans such as external commercial borrowings and aid (1), foreign direct investment (2) and portfolio investment (4). Item 3 is wrong: private remittances are unilateral transfers, recorded in the current account under secondary income. So (a), (c) and (d) fail.
Notice India's case: remittances of about US$135 billion in 2024–25 make India the world's largest recipient and help finance the trade deficit. Capital account convertibility remains partial in India; the Tarapore Committees (1997, 2006) set out a roadmap. Trap: remittances are inflows of money, but they create no asset or liability.
Answer as per the official UPSC answer key.
Which of the following would include Foreign Direct Investment in India?
- 1. Subsidiaries of foreign companies in India
- 2. Majority foreign equity holding in Indian companies
- 3. Companies exclusively financed by foreign companies
- 4. Portfolio investment
Select the correct answer using the codes given below :
Answer (d) & explanation
Items 1, 2 and 3 are correct (d). FDI is investment that brings a lasting interest and control in an enterprise. Subsidiaries of foreign companies in India (1), majority foreign equity in Indian companies (2), and companies wholly financed by foreign companies (3) all qualify. Item 4 is wrong: portfolio investment buys shares and bonds for returns without management control; it is FPI. So (a), (b) and (c) fail.
Notice the threshold: following the Arvind Mayaram Committee (2014), a foreign stake of 10% or more in a listed company counts as FDI, and below 10% as FPI. Press Note 3 (2020) requires government approval for FDI from countries sharing land borders with India. Trap: portfolio money is foreign, but not 'direct'.
Answer as per the official UPSC answer key.
Consider the following statements :
The price of any currency in international market is decided by the
- 1. World Bank
- 2. demand for goods/services provided by the country concerned
- 3. stability of the government of the concerned country
- 4. economic potential of the country in question
Which of the statements given above are correct?
Answer (b) & explanation
Statements 2 and 3 are correct per UPSC's key (b), but the key is doubtful on item 4. Under a floating exchange rate, a currency's price is set by demand and supply in the forex market. Demand for a country's goods and services raises demand for its currency (2), and political stability draws in capital (3). Item 1 is wrong: the World Bank plays no part in setting exchange rates. Item 4 is the doubt: a country's economic potential clearly attracts investment and supports its currency, so many argue for including it; UPSC treated it as too vague to move the price directly.
Notice India's system: the rupee is a managed float, and the RBI intervenes to curb volatility using its reserves. Trap: the World Bank is often confused with the IMF.
Answer as per the official UPSC answer key.
In terms of economy, the visit by foreign nationals to witness the XIX Common Wealth Games in India amounted to
Answer (a) & explanation
The answer is (a), export. When foreign nationals came to watch the 2010 Commonwealth Games in Delhi and spent money on hotels, tickets, transport and food, India was selling them services and earning foreign exchange. In the balance of payments, spending by foreign tourists in India counts as an export of services under the current account, even though the goods and services never leave the country. It is not an import (b), which would be Indians spending abroad. Production (c) and consumption (d) do not describe the transaction from the external-sector angle.
Notice the rule: what matters is the direction of money. Money flowing in for goods or services = export; money flowing out = import. Similarly, foreign students studying in India, foreign patients under medical tourism, and IT services to foreign clients are all exports. India's services exports crossed about US$ 387 billion in 2024-25.
Answer as per the official UPSC answer key.
Consider the following actions which the Government can take :
- 1. Devaluing the domestic currency.
- 2. Reduction in the export subsidy.
- 3. Adopting suitable policies which attract greater FDI and more funds from FIIs.
Which of the above action/actions can help in reducing the current account deficit ?
Answer (d) & explanation
Actions 1 and 3 are correct (d). Devaluing the rupee makes Indian exports cheaper abroad and imports costlier at home, which tends to narrow the trade gap and so the current account deficit (1). Policies attracting FDI and FII money bring capital inflows that finance the deficit and ease pressure on the rupee (3). Action 2 is wrong: cutting export subsidies makes exports less competitive, which would widen the deficit. So options (a), (b) and (c) fail.
Notice the structure: the current account covers trade in goods and services, remittances and income; the capital account covers FDI, FPI and loans. India usually runs a CAD because of large oil and gold imports, offset partly by services exports and remittances, where India is the world's top recipient (about US$ 135 billion in 2024-25). Trap: subsidy cuts hurt exports.
Answer as per the official UPSC answer key.
A “closed economy” is an economy in which
Answer (d) & explanation
The answer is (d). A closed economy has no trade with the rest of the world: neither exports nor imports, and usually no international capital flows. It is mostly a theoretical model used in economics to study an economy on its own. Option (a), full control of money supply, describes monetary policy, not openness. Option (b), deficit financing, is a fiscal method. Option (c), only exports, is still trade, so it is not a closed economy.
Notice the contrast: an open economy trades goods, services and capital with other countries. In macroeconomics, a closed economy's output is C + I + G, while an open economy adds net exports (X − M). India was relatively closed before the 1991 reforms (LPG: liberalisation, privatisation, globalisation), which opened it to trade and investment. Trap: 'only exports' is still an open economy.
Answer as per the official UPSC answer key.
Both Foreign Direct Investment (FDI) and Foreign Institutional Investor (FII) are related to investment in a country. Which one of the following statements best represents an important difference between the two ?
Answer (b) & explanation
Option (b) best states the difference. FII (now called Foreign Portfolio Investment) buys shares and bonds across the market, so it adds to capital in general, but it can leave quickly, which is why it is called 'hot money'. FDI goes into a particular firm or sector, usually with a lasting stake (10% or more), and brings technology and management. (a) is reversed: FDI, not FII, brings skills. (c) is wrong: FIIs mostly trade in the secondary market, and FDI is not limited to it. (d) is reversed: FDI is the more stable flow.
Notice the policy angle: India prefers FDI for long-term growth and watches FPI flows for currency volatility. Trap: options (a) and (d) swap the two terms.
Answer as per the official UPSC answer key.