Limitation of bank rate, Managerial Economics

Limitation

The degree or success with which the central bank can use its bank rate policy to control the total credit in the economy depends upon the interest elasticity of investment demand. During boom the demand for bank credit by the business community may be highly interest inelastic. When the entrepreneurs are over optimistic and consequently the marginal productivity of investment in high. The demand for bank credit cannot be curtailed simply by raising the bank rate by the central bank . if the investors expect that the value of their investment will appreciate, say by 10 per cent annum then even a rise of a as high as 10 per cent per annum in the money interest rate will not deter them from borrowing from the commercial banks. Moreover, in many business undertakings interest rate constitutes a negligible proportion of the total unit cost of production . consequently , for such business the demand for bank credit is highly interest inelastic. Although in the long period the bank rate is bound to influence the stock market and the business yield expectations, but it may be too late to cheek evil when the seeds of destruction have been already sown.

The bank rate policy proves more ineffective during depression than during the boom. Any depression involves tedious readjustments of one type or the other. Serious depression gives a sharp blow to business confidence which only a considerable time factor can revive. Consequently, at this time the demand for bank credit become highly interest inelastic. Businessmen do not borrow even at the maximum facilities provided by the commercial banks. When sales are falling off quickly an idle plant capacity in increasing over the entire community, the investors cannot be easily persuaded to increase or even to continue the flow of their borrowing . Nobody will install any new plant for a remote and uncertain demand. Even if the interest rate falls to zero, or even becomes negative (which is not possible ) no inducement to invest may be caused. If the fall in prices is expected to continue, no conceivable fall in its bank rate by the central bank and through it in the lending rates of the commercial bank will initiate recovery in the economy in the economy. Thus the bank rate policy suffers from serious limitations and central bank cannot eliminate the occurrence of both and s slump from the economy merely by raising or lowering the bank rate.

Posted Date: 12/1/2012 7:07:32 AM | Location : United States







Related Discussions:- Limitation of bank rate, Assignment Help, Ask Question on Limitation of bank rate, Get Answer, Expert's Help, Limitation of bank rate Discussions

Write discussion on Limitation of bank rate
Your posts are moderated
Related Questions

gap between economic theory and business practice

Relationship between AC, AVC, AFC and MC is elucidated graphically by drawing respective cost curves in Figure below. Behaviour of cost curves is elucidated below. Figure:

Discuss how the nation's present economic situation may affect your business in the next year (your market is the entire US economy).  Contain the following in your analysis. a)

Define concept of Managerial decision-making Managerial decision-making draws on economic concepts as well as techniques and tools of analysis provided by decision sciences. T

Marginal Utility The extra utility derived from the consumption of one more unit of a good, the consumption of all other goods remaining unchanged. The hypothesis of dimin

SHORT RUN EQUILIBRIUM OF THE FIRM A firm is in equilibrium when it is maximizing its profits, and can't make bigger profits by altering the price and output level for its prod

Because of the complex and dynamic nature of marketing phenomenon, demand forecasting has become a regular and significant business exercise. It is necessary for profit maximisatio

Cost of Unemployment Unemployment is a problem because it imposes costs on society and the individual.  The cost of unemployment to a nation can be categorized under three hea

Explain about Pragmatic Managerial economics is pragmatic. In pure micro-economic theory, analysis is performed based on certain exceptions that are far from reality. Though in