What is Credit Crunch?

In simple words, when you can’t get loans easily, its credit crunch.

Definition: Reduction in the general availability of loans (or credit) or a sudden tightening of the conditions required to obtain a loan from the banks.

Examples of credit crunch

  1. In America, banks were giving housing loans to any swinging dude, without checking his credit-worthiness (like can he really pay back the loan or not?). This lead to mass-defaults after few years. Now bank managers are very cautious and before processing your loan application, they’ll check it 17 times! this is also a sort of credit crunch because you can’t get loans that easily, like you used to get, before the recession.

  2. In 3G auction spectrum, telecom companies took 70,000 cr. from Indian Banks to bid in the auction. = lot of money flew out of the system. So for a time being, banks have less money to give as loans to other customers = Credit crunch. (although that didnot happen) but suppose Mukesh Ambani had called up a bank asking for 50000 cr. loan for acquiring a foreign company next morning, Bank manager might have said ‘Sir, sorry we don’t have no money!”

Implications of Credit Crunch

Credit crunch is not good for economy, because

  1. A businessman wants to start new factory, but cannot get loans easily = slowdown in economy.
  2. A couple wants to buy home, but can’t get home-loan easily = slowdown in real-estate sector.
  3. A college kids wants a new bike, but his dad can’t get loan easily = slowdown in automobile sector, but also good from climate-change angle. as people will be forced to use public transport system ;-)

If such credit crunch continues for a long time, it’ll lead to job-losses, factories shutting down and finally recession.

But sometimes credit crunch is anecessary evil, when there is too much liquidity (money) in the market.

Too much liquidity = too much money = easy to get loans = people have more money in their hands compared to the items available for purchase = hyper-inflation.

From the previous post about CRR & SLR, we can also say that an (Excessive) increase in CRR and SLR will lead to Credit crunch.

##As described by Mrunal