Credit Crunch

A credit crunch happens when banks are reluctant to loan money to individuals and businesses. In a credit crunch situation, it becomes increasingly difficult for companies to obtain funding. When and if lenders do offer loans during a credit crunch, they do so at relatively higher interest rates, which can be prohibitively expensive. Several situations can lead to a credit crunch. When banks, in unison, are concerned about elevated counterparty risk (i.e. high rates of defaults, bankruptcy, etc.), a credit crunch can ensue. Also, if banks find themselves overexposed in an economic downturn (i.e. subprime mortgages crisis), many banks may have to reduce loan availability in order to not aggravate their collateral shortfall, resulting in a credit crunch. A credit crunch has significant consequences on the economy. A credit crunch can tighten the flow of capital causing businesses to lay off employees or shut down completely due to their inability to borrow capital. A credit crunch is also referred to as a credit squeeze.