Question

U.S. Interest Rates during the Credit Crisis During the credit crisis, U.S. interest rates were extremely low, which enabled businesses to borrow at a low cost. Holding other factors constant, this should result in a higher number of feasible projects, which should encourage businesses to borrow more money and expand. Yet many businesses that had access to loanable funds were unwilling to borrow during the credit crisis. What other factor changed during this period that more than offset the potentially favorable effect of the low interest rates on project feasibility, thereby discouraging businesses from expanding?

Answer 1

Answer:

The insufficient expected low cash flows from investment caused by low demand for goods and services by the household.

Explanation:

A recession refers to contraction of the business cycle when economic activity fall generally.

In order to get out of recession, governments usually employ macroeconomic policies like increasing government expenditure, reducing taxation, and increasing money supply.  When the money supply  is increased, it leads to fall in the interest rate.

Interest rate is a cost of investment; and it is expected that investment will rise when the interest rate falls. However, this was not so during the US credit crisis despite that U.S. interest rates were extremely low majorly due to low demand.

During the credit crisis, there was a general low demand for goods and services by the household. This made businesses to be discouraged from investing in new projects, because it was expected that low demand will lead low cash flows from the investment.

The insufficient expected low cash flows was therefore the major factor that discouraged businesses to borrow cheap funds that were allowed by the extremely low interest rate.

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