Question

Are higher or lower interest rates beneficial to institutions that borrow short & lend long? Explain with the help of an example.

Answer 1

Organisations who are borrowing for shorter period of time and lending for longer period of time will always want LOWER interest rate because organisation are exposed to missmatching of their assets and liabilities so when there will be a regime of higher interest with the probability of default of these organisations are going to increase because they will have their payables in shorter period of time and they are generating the incoming longer period of time and there will be a risk related to liquidity crunch and they can default so they will always prefer the regime of lower interest rate.

For example, commercial bank which have higher amount of payable in shorter term and receivables in longer term will always want low interest rate because it can manage with short-term payments as it have receivables in longer term so when there will be a higher interest rates regime, there can be a liquidity crunch because it will have to pay its cash frequently on a higher sum of money so they can have the risk of financial distress.