[OPE-L:7365] [OPE-L:895] Re: Re: r & i

Allin Cottrell (cottrell@ricardo.ecn.wfu.edu)
Wed, 14 Apr 1999 09:26:04 -0400 (EDT)

On Wed, 14 Apr 1999, Gerald Levy wrote:

> OK, I'll grant you this point. Yet, if the CB raises the
> discount rate (or its equivalent in other countries) by too
> much, then a black market can develop for lending funds.
> Indeed, we see something similar in many countries with the
> exchange rate...

The analogy with the exchange rate doesn't work. Where was the
black market in cheap loans during, e.g. the Volcker period of
exorbitantly high interest rates in the US around 1980? Why
would it be in anyone's interest to lend to private-sector
agents at, say, 8 percent, when they could buy Treasury bills
offering, say, 18 percent? When the central bank sets interest
rates it doesn't _just_ alter the discount rate, it also makes
the change in discount effective via open market operations.

A loan black market makes sense only in the case where the state
attempts to impose "usury laws" that set a ceiling to the rate
of interest: this will generate an unsatisfied fringe of
potential borrowers, and lenders who don't mind breaking the law
will be available.

Allin Cottrell.