DIFFERENT SITUATIONS IN CREDIT--MONEY AND CREDIT

CREDIT--(LOANS)--A large number of transactions in our day to day activities involve credit in some form or the other.
CREDIT:it refers to an agreement in which lender supplies the borrowers with money, goods, services in return for the promise of future payments.
Credit plays a vital and positive role as well as a negative role.
Whether credit will be useful or not depends upon the risks in the situation & on whether there is some support, in case of loss.
Credit—in its negative role—(debt-trap)
In the rural areas the main demand for the credit is for the crop production. Crop production involves considerable cost on seeds, fertilizers, pesticides, water, electricity, repair of equipment etc..
Farmers usually take crop loans at the beginning of the season and repay loan after harvest.
Repayment of the loan is dependent on the income from farming.
At times repayment of the loan becomes difficult and credit instead of improving the earnings,
pushes the borrower into a situation from which recovery is very difficult & painful .
this situation is called DEBT TRAP..
TERMS OF CREDIT
Q. What do you understand by terms of credit?
--Interest rate
--collateral
--documentation requirement
--mode of payment together comprise terms of credit.
These terms of credit vary substantially from one credit arrangement to another.
They may vary depending on the nature of lender and borrower.

Every loan agreement specifies an interest rate which the borrower has to pay to the lender along with the repayment of the principal.
In addition to this lenders may demand COLLATERAL(security) against the loans.
COLLATERAL—is an asset that the borrower owns such as land, building, vehicle, livestocks, deposits with banks and uses this as a guarantee to a lender until the loan is repaid.
If the borrower fails to repay the loan, the lender has the right to sell the asset or collateral to obtain the payment.
Q. Why do lenders ask for collateral while lending?
It is to ensure repayment and is a security of the lender.

VARIOUS SECTORS OF THE ECONOMY

People obtain loan through various sectors.
There are two sectors which offer loans—Formal and Informal sector.
FORMAL SECTOR / INFORMAL SECTOR
1.Formal sector includes Banks &Cooperatives whereas Informal sector includes moneylenders, traders, employers, relatives and friends etc.
2.RBI—Reserve Bank of India supervises the activities of formal sector and keep the track of their activities but there is no one supervise the functioning of informal sector.
3.Periodically banks have to submit information to the RBI on how much they are lending and to whom, at what interest rate, etc., on the other hand informal sector can lend at whatever interest rate they choose. There is no one to stop them from using unfair means to get their money back.
4. Compared to the formal sector most of the informal lenders charge a much higher interest on loans,& thus cost to the borrower of the informal loans is much higher.
FORMAL SECTOR—FEATURES
--Includes banks & cooperatives
--RBI supervises the functioning of formal sources of loans—To see that the bank maintains a minimum cash balance and monitors that these banks give loans not just to profit-making bussiness and traders but also to small cultivators , small scale industries , to small borrowers etc.
--periodically banks have to submit information to RBI of their activities.
INFORMAL SECTOR—FEATURES
--Includes money lenders, traders, employers, relatives & friends etc.
-- there is no one to supervise their credit activities.
--can charge whatever rate of interest.
--there is no one to stop them from using unfair means to get their money back.
Q. How does high rate of interest affect the borrower?
Though informal sector is catering 48% of credit needs yet it has certain disadvantages for which formal sector has to expand its activities.
--Compared to the formal lenders most of the informal lenders charge a much higher interest on loans it means that the cost to the borrower of the informal loans is much higher.
--higher cost of borrowing ,it means that larger part of earning of the borrowers is used to repay the loan & they have less income left for themselves.
--the high rate of interest of borrowing means that the amount to be repaid is greater than the income of the borrower& it can lead to increasing debt and debt trap.
--people who might wish to start an enterprise by borrowing may not do so because of the high cost of borrowing.
For these reasons banks &cooperatives need to lend more. As it would lead to higher incomes and many people could then borrow cheaply for a variety of needs.(they could grow crops, do business, setup small industries etc.
Cheap and affordable credit is crucial for the country’s development.