The Role of Credit in the Economy | Edexcel A-Level Economics B (9EB0)
The Role of Credit in the Economy
- 121 questions
- 8 subtopics
- Theme 1: markets, consumers and firms
- Paper 1 and Paper 3
The Role of Credit in the Economy is examined in Paper 1, Markets and how they work, and in Paper 3, The economic environment and business.
It covers banks and the channelling of savings into investment, bank lending, interest rates and collateral, risk in business decision-making, limited and unlimited liability, loans, overdrafts and trade credit, venture capital, share capital and leasing, owner's capital, retained profit and other sources of finance and challenges in obtaining credit and the impact of credit on the economy.
Sample questions from The Role of Credit in the Economy
Answer each one closed book first, then open the answer.
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Banks and the channelling of savings into investment
What is meant by risk transformation by a bank?
Show the answer
The bank absorbs the risk of individual loans by spreading its lending across many borrowers, so a saver's deposit is far safer than any single loan would be. -
Bank lending, interest rates and collateral
Why does offering collateral usually lower the interest rate a firm is charged?
Show the answer
Collateral reduces the lender's loss in the event of default, so a smaller risk premium is needed and the loan can be priced more cheaply. -
Risk in business decision-making
What is meant by financial risk?
Show the answer
Financial risk is the danger that a firm cannot meet its debts or interest payments, and it rises as the firm takes on more borrowing. -
Limited and unlimited liability
A shareholder pays £5,000 for shares in a company that later fails owing £2 million. State the maximum the shareholder can lose.
Show the answer
The shareholder can lose at most the £5,000 already invested. -
Loans, overdrafts and trade credit
Why is trade credit described as a source of finance even though no money is advanced?
Show the answer
The buyer holds and can sell the goods before paying for them, so the supplier is in effect funding the buyer's stock for the length of the credit period. -
Venture capital, share capital and leasing
Define share capital.
Show the answer
Share capital is money a company raises by selling shares, which give the buyer part-ownership rather than a claim to repayment. -
Owner's capital, retained profit and other sources of finance
Explain the opportunity cost of retaining profit rather than distributing it.
Show the answer
Shareholders receive a smaller dividend now, and if they believe the money would earn more in their own hands they may sell their shares or press the board to pay out. -
Challenges in obtaining credit and the impact of credit on the economy
Define a credit crunch.
Show the answer
A credit crunch is a sharp contraction in the availability of loans, in which banks cut their lending regardless of the interest rate borrowers are willing to pay.
The 8 subtopics
One subtopic is one session. Work down the list.
| Subtopic | What it covers | Questions |
|---|---|---|
| Banks and the channelling of savings into investment | Banks as financial intermediaries, investment as economists define it, maturity and risk transformation, lending larger sums than any saver deposits, the interest rate spread, saving against investment, lending and productive capacity, liquid assets, bank runs, long-run growth, and other institutions that channel savings. | 14 |
| Bank lending, interest rates and collateral | Credit and interest rates, higher rates for new businesses, collateral and its effect on rates, calculating interest bills and maximum loans, the base rate and the Bank of England, interest rates and investment, indebted firms, secured against unsecured loans, default, cash-flow forecasts and credit ratings. | 16 |
| Risk in business decision-making | Risk in business and how it differs from uncertainty, why entrepreneurs accept it, the risks of a new product, financial risk and borrowing, diversification, insurance, market research, risk and expected return, lender and borrower views of risk, moral hazard, and risk over the economic cycle. | 13 |
| Limited and unlimited liability | Unlimited and limited liability, which business forms carry each, the separate legal entity, what creditors and shareholders can lose, how limited liability encourages investment, personal guarantees, private against public limited companies, the costs of limited liability, trade credit, partly paid shares, firm size and insolvency. | 15 |
| Loans, overdrafts and trade credit | Bank loans and overdrafts and their advantages and disadvantages, trade credit and why suppliers grant it, calculating early-payment discounts and overdraft interest, matching finance to a machine purchase, revolving credit facilities, loan term and total interest, the main sources of credit, and the supplier's risk. | 16 |
| Venture capital, share capital and leasing | Venture capital, why it takes equity, calculating an implied business value, its non-financial benefits and cost to founders, share capital and calculating it, permanent capital, dividends and dilution, public share issues, and leasing with its advantages and main disadvantage. | 15 |
| Owner's capital, retained profit and other sources of finance | Owner's capital and personal savings, retained profit as the cheapest source of finance and its opportunity cost, why new firms cannot rely on it, sale of assets and sale and leaseback, business angels against venture capital, and crowdfunding, its two forms, its advantages and its drawbacks. | 16 |
| Challenges in obtaining credit and the impact of credit on the economy | Why banks refuse loans, asymmetric information and credit rationing, higher borrowing costs for small firms and start-ups, credit crunches and their effect on investment and output, consumer credit and aggregate demand, household debt, credit and the economic cycle and multiplier, seasonal trade, and financial exclusion. | 16 |
How the guide is worked
Answering a question from memory stores it far better than reading the answer again. The guide runs that as a fixed procedure on one subtopic at a time, about twenty minutes a session.
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Step 1 · Closed book
Cover the answers. Work through one subtopic and write down what you can. Leave blanks where you have nothing.
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Step 2 · Open book
Go back to the top. Read each printed answer and write it out in full, including the ones you had right.
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Step 3 · Closed book again
Same questions, same order, from memory. The gap between pass one and pass three is the session result.
Read the full method, the return schedule and the research behind it.
Nearby topics
Edexcel A-Level Economics B Active Recall Guide
Every topic, not just this one. 2,933 questions with their answers.