The credit and debt operations appear usually in economic and financial transactions. When the creditor is willing to lend and borrower is willing to borrow it is the time of credit expansion of the other hand when both the parties hesitate to lend and borrow, it is the case of contraction.
Following are the basic factors which determine the expansion and contraction of credit.
1. The Volume Of Business Activity :-
If the business activity is in full swing and rate of profit is high then the volume of credit will expand in the country. If the business activity slackens then the price level and rate of profit will
fall and the volume of credit will be contracted.
2. Rate Of Return On Capital :-
If the marginal efficiency of capital is higher than the current rate of interest then businessman will borrow the money and will increase the investment the volume of credit will expand. If the rate of return is less volume will be contracted.
3. Level and Distribution Of Income :-
If the level of income is high in the country and it is equally distributed among the people, volume of credit will expand.
4. Political Condition :-
The modern business world is highly sensitive to the political conditions prevailing in the country. In the days of war and emergency no body will like to borrow the money to invest. So volume of credit will be contracted. While a peace and prosperity inside and outside, the country is very helpful in expanding the volume of credit.
5. Stage Of Economic Growth :-
If the country is in the stage of self sustained growth and there is a high degree of specialization the market will be wide and due to this business activity, volume of credit will be large.
6. Speculation Activity :-
When speculating is ripe the volume of credit expands and when speculation undergo losses the volume of credit contracts.
7. Faith In Banking System :-
If the banking system is working on sound footing and the banking facilities are available, the credit will expand otherwise it will contract.
8. Stable Government :-
If the government is stable and there is no rapid change in the policies of the Government then the volume of credit will be large otherwise it will be small.
9. Currency Conditions :-
Currency is used as a media of exchange because people have faith and confidence on the issuing authority, if the currency is over issued and it looses the faith in the public, then the volume of credit will be contracted. On the other hand a sound currency is very useful in expanding the volume of credit.
10. Customs and Habits Of The People :-
If the people are habitual in making the payment through cheques then the volume of credit expands. If the people prefer to use currency then the volume of credit contracts.