We Will discuss How Do Interest Rates Affect Businesses.Interest rates can have a significant impact on businesses in various ways.Here are some of the key ways.
10 Facts;How Do Interest Rates Affect Businesses
Interest Frustrates Goal Realization:
Financial intermediation on the basis of interest frustrates the realization of the humanitarian goals such as need-fulfillment, full employment, equitable distribution of income and wealth, and economic stability.
It allocates financial resources among borrowers on the criteria of their ability to provide acceptable collateral to guarantee the repayment of the principal and sufficient cash flow to service the debt. End use of
financial resources does not normally constitute the main criterion. Financial resources hence go mainly to the rich who fulfill both these criteria, and to governments, which, it is assumed, will always be able to service their debts.
Islam, therefore, prohibits interest like other major religions do and organizes financial intermediation on the basis of profit or loss sharing. The financier is not assured of a fixed, pre-determined rate of return. His return is linked to the ultimate outcome of the business financed.
- Injustice and Exploitation:
It can be on the part of the lender or the borrower. For example, if a loan has been obtained at 15% and the borrower, utilizing this capital, makes a profit of 40% then the lender is being exploited because the profit has not been shared justly. On the other hand, if the borrower sustains a loss of 40%, the borrower gets exploited, because in effect he loses 55% (40% loss on investment + 15% interest).
- Inequitable Distribution of Wealth:
The interest-based financial intermediation relies heavily on the collateral, giving inadequate consideration to the strength of the project or the ultimate use of financing. Thus, while deposits come from a crosssection of society, their benefit goes mainly to the rich.
The Islamic financial system can be more conducive to the realization of equity. Risk I reward sharing would compel the financier to give due consideration to the strength of the project, thus making it possible for even the poor but competent entrepreneur to get financing if they have worthwhile projects.
- Economic Instability:
The rate of interest has become one of the most important destabilizing factors in the present day world economy. The high degree of interest rate volatility injects an uncertainty in the total return on invested capital (interest + profit). This makes it difficult to take long-term investment decisions with confidence. It drives borrowers and lenders alike into the shorter end of the financial market.
In a wholly equity-based system, the entrepreneur’s share in the total return on capital would depend on the profit-sharing ratio and the ultimate outcome of the business. The profit-sharing ratio between the entrepreneur and the financier cannot fluctuate from day to day or even from month to month like the rate of interest does. The profit sharing ratio fluctuates with the change in economic conditions.
How Do Interest Rates Affect Businesses;Here are some of the key ways that interest rates can affect businesses.
- Cost of borrowing: Interest rates can directly impact the cost of borrowing for businesses. When interest rates are low, businesses can borrow money at a lower cost, which can increase their profitability and help them to invest in new projects or expand their operations. Conversely, when interest rates are high, borrowing costs increase, which can make it more difficult for businesses to borrow money and can reduce their profitability.
- Investment decisions: Interest rates can also influence a business’s investment decisions. When interest rates are low, businesses may be more likely to invest in projects that require borrowing, such as expanding operations or purchasing new equipment. Conversely, when interest rates are high, businesses may be less likely to invest in new projects, as borrowing costs will be higher, and the returns on investment may be lower.
- Exchange rates: Interest rates can also affect exchange rates, which can impact businesses that engage in international trade. For example, when interest rates are high in one country, investors may be more likely to invest in that country, which can increase demand for the country’s currency and cause its exchange rate to rise. This can make it more expensive for businesses in other countries to purchase goods and services from that country.
- Consumer spending: Interest rates can also impact consumer spending, which can affect businesses that rely on consumer demand for their products or services. When interest rates are low, consumers may be more likely to borrow money to make purchases, which can increase demand for goods and services. Conversely, when interest rates are high, consumers may be more likely to save money and reduce their spending, which can reduce demand for goods and services.
Overall, interest rates can have a significant impact on businesses, and businesses need to be aware of how changes in interest rates may affect their operations and bottom line.
