What are the disadvantages of informal source of credit?
Answers
Formal sources of credit
Banks and cooperatives are the formal sources of credit.
Advantages
1. These institutions are regulated by the Reserve Bank Of
India. Their rates of interest for loans are controlled. The rates and terms
are fixed.
2. There is no exploitation by the lenders.
3. Everyone can take a loan that includes big businessmen as
well as the small cultivators or borrowers.
4. The cost of borrowing is usually less.
Disadvantages
1. The procedure to get the loan is time consuming.
2. They require collateral security.
Informal sources of credit
Landlords, traders, moneylenders, employers, friends and
relatives are informal sources of credit.
Advantages
1. No external control over the lending practices.
2. Suitable for poor households.
Disadvantages
1. The interest rates can be very high.
2. The lenders can use unfair means to get the money back
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Answer:
Disadvantages of informal sources of credits are:
Explanation:
(i) Most of the informal lenders charge a much higher interest on loans. Thus the cost to the borrower of the informal loans is much higher.
(ii) Higher cost of borrowing means a larger part of earning of the borrowers is used to repay the loan and they have less income left for themselves.
(iii) The high rate of interest of borrowing can mean that the amount to be repaid is greater than the income of the borrower and it can lead to increasing debt and debt-trap.
(iv) People who might wish to start an enterprise by borrowing may not do so because of the high cost of borrowing.