NONE Essay Example | Topics and Well Written Essays - 1250 words

NONE - Essay Example Asymmetric information refers to a situation where participants in a particular market have different information. In the case of credit markets, borrowers may know more information regarding their credit worthiness more than the lenders. Another element that brings about imperfection is limited commitment. It refers to situations where parties to a particular contract are not willing to fulfill their obligations. Lenders will usually use collateral to offset the adverse effects of limited commitment. One of the main effects of the two imperfections is that borrowing can only take place against collateral, such as buildings, land, and machinery. The case will affect the ability of the households and firms to borrow because of changes in the value of collateral (Filardo et al. pp, 11-37). Economists have consistently made the assumptions that the credit market is perfect. However, this assumption is not accurate because of the frictions that take place in the market. The frictions mentioned above are of particular interest to any economist. The diverse effects that are they impact on the market cannot be. It is why there is a need for an economic framework that embraces intermediation because frictions can impede the crucial supply of credit in the market. An assumption that the market is perfect would be against the realities of the economy. The effects of frictions are in various economic fields such as the investment decisions, consumption/savings behavior, economic growth and the transmission of monetary policy (Bernanke et al. pp. 17-51). Changes in the credit market condition will result in the amplification and propagation of the initial effect of first real or monetary shocks. Shocks are unexpected and unpredictable events that affect an economy these factors may be positive or negative. Exogenous factors have an impact on endogenous economic variables; the economic variables that respond are output and employment. The