Provide a 7 pages analysis while answering the following question: Advantages and Disadvantages of the Lender Of Last Resort Function. Prepare this assignment according to the guidelines found in the APA Style Guide. An abstract is required. The financial safety nets have two important elements and they are the deposit insurance schemes and the central bank (Landau and Lindgren 27).
The central bank provides the extension of credit to the financial institutions that are experiencing financial difficulties and they are incapable of obtaining the required funds elsewhere (CentralBanksGuide.com 1). In other words, the central bank becomes the last option for financial assistance when the other sources of finance are depleted. The major task of the lender of last resort is to maintain the banking stability and the financial system by offering protection to the individual’s deposited funds. The lender of last resort also prevents unnecessary withdraws by the banks that have temporarily limited liquidity (CentralBanksGuide.com 1).
For many years, central banks have been attempting to avert great depressions by taking the role of lender of last resort at times of financial difficulties and crisis. The action of lending as the last resort offers liquidity that has a penalty rate. Through the open market operations, the central bank lowers the interest rates on all the safe assets. The process entails support from the market directly (CentralBanksGuide.com 1). The institutions that go for the lender’s assistance are basically the commercial banks. Commercial banks go for such assistance when the financial times are very difficult. the action by the commercial bank is an indication of financial difficulties. The loans are not granted to the commercial banks alone, there are other eligible financial institutions and private companies that may seek the loans. Although this can be the case, the action is sometimes is considered very risky (CentralBanksGuide.com 1).
The advantages of the lender of last resort can be found in its policies that have three main objectives and the role of the central bank as a lender of last resort.