Question

a. Based on the functions of the banking system, give reasons why governments bail outbanksduringaneconomiccrisis?

b. Is the World heading for a recession? Explain the conditions under which the world can be classified as being in a recession as COVID-19 persists. Explain linking the pandemic to the various stages of a recession.

Answer 1

A) Banks act as very important financial intermediary and allow the capital to flow from persons/instituions who have excess to those in need at a cost and thus this allows the businesses and the general economy to grow. If banks ail, then this intermediation is stalled and the deployment of capital also stops thus leading to a complete stagnation in growth. So government try to support the economy and bail out the banks. Moreover bank failure would also mean that hard earned money of general public is lost and so government intervenes to prevent this catastrophe from occurring.

B) The world is definitely heading towards a period of muted economic growth. If the major economies of the world suffer two quarters of economic contraction i.e. their GDP do not grow in two consecutive quarters, then it can be interpreted that the world is in a recession.

Due to the current pandemic, the demand for several things has gone down and this has resulted in depressed earnings for certain industries and job losses. In turn, this reduces the purchasing power of people which results in further demand degrowth and thus setting up a vicious cycle leading to recession.