CA Foundation · Business Economics · Business Cycles
Which of the following is a typical effect of a business cycle expansion on the banking sector?
In a business cycle expansion, firms and households borrow more because incomes and profit expectations are rising, so credit demand increases. Higher incomes also make repayment easier, so loan defaults tend to decline. Rising defaults and weak credit demand are typical of a recession.
- ADemand for bank credit rises and loan defaults tend to declineCorrect
- BDemand for bank credit falls and defaults rise
- CDeposits are withdrawn en masse and credit is frozen
- DInterest income falls because borrowers repay early
Explanation
During expansion, firms and households are optimistic, invest and borrow more, and rising incomes and profits make repayment easier, so non-performing loans tend to fall. The opposite pattern appears in a recession.
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