Types / Sources of Credit and the impact of Credit within the Economy

Types / Sources of Credit and the impact of Credit within the Economy

Courses Info

Level: AS Levels, A Level, GCSE – Exam Boards: Edexcel, AQA, OCR, WJEC, IB, Eduqas – Economics Revision Notes

Types of Credit


  • This involves borrowing money which is then repaid at a later date with added interest payments
  • Secured Loans – these are secured against the borrower’s assets to protect the bank’s funds if the loan cannot be repaid back
  • Loans can be in the form of: cash credit, on demand, or only for short term
  • Cash Credit Loans – these are based on bonds and other securities
  • Loans on Demand – entire loan is paid into the borrower’s account and is charged with interest immediately
  • Short Term Loans – usually secured against a security and tend to be personal or for working capital
  • Loans can be inflexible and if less money is needed than the amount borrowed, interest still has to be paid on the full amount
  • Some interest is fixed so firms know exactly how much interest they will have to pay


  • Overdrafts allow a consumer / firm to borrow temporarily from the bank by spending more than what is saved in the account
  • The amount which can be borrowed is limited and the interest rates are usually quite high
  • Interest is only paid on the amount borrowed and the amount borrowed is flexible

Trade Credit

  • The credit which is extended to a firm by suppliers, meaning a good can be purchased and paid for at a later date
  • Small firms can benefit when financing their growth
  • Sellers are able to generate more sales by enforcing a Trade Credit system – however if the buyer takes a long time to pay the supplier back – it can lead to lower profits
  • Trade Credit is a fast source of income

Sources of Credit


  • Commercial banks generate a large proportion of their income through interest payments on loans they issue
  • Banks use deposited funds as loans to create credit
  • Firms’ main source of credit is from commercial and high street banks

Other types of Finance

Venture Capital

  • Specialist firms receive a share in a company in return for the funding they provide to the firm – this aims to help new firms establish themselves
  • Investor receives dividends – a return on the investment

Share Capital

  • Selling shares to investors will raise the share capital and is applicable to both public, as well as private companies
  • Shareholders get to input their opinions on how the company should be run and receive a dividend as a reward for investing into the firm


  • This is a long term agreement that allows firms to use an asset without having to pay the full amount upfront
  • The firm can own / control the asset and pays rent to cover the depreciation of the asset. They also pay interest to cover the cost of the capital

Other sources of finance

Owner’s capital – personal savings

  • This refers to the amount of money that an owner has available to invest into the firm and saves them from borrowing expensive credit from a bank
  • There are no costs involved in obtaining the capital since the owners already own the capital
  • Interest on a loan does not need to be paid and dividends do not need to be shared with shareholders
  • However, if capital is lost, the owner also loses it

Retained Profit

  • This is the money remaining after deducting taxes, interest, and dividend payments from the total sales revenue
  • Firms may choose to reinvest their retained profit into the company as they are a cheap source of finance
  • Retained profit does not increase a firm’s debt as they are not borrowing additional money and owners have more control as third parties are not involved

Sale of Assets

  • A firm can sell its assets to raise money and could lease assets instead
  • The money gained from selling the asset could act as an immediate source of finance – useful in the short run
  • Selling assets can also reduce the costs involved with maintaining capital
  • However, depending on market circumstances, firms may have to accept a lower price for their asset


  • Investors can help finance the business
  • However, conflict between different shareholders may occur
  • Risk is shared between the shareholders who invest in the firm – this also means the profit it distributed

Online Funding

  • Crowd Funding – useful for new firms who are struggling with gaining access to credit from a bank
  • This involves using the internet to aid raising funds from several people – known as a ‘crowd’
  • Firms using Online Collaborative Funding can raise finance quickly and at a low cost – however, firms have to raise funds to a certain target for it to be a success
  • Using online funding, firms can also advertise their business to spread awareness and widen their consumer base – however, if they do not receive anything, they risk building a bad reputation

Role and impact of Credit in the Economy

  • Credit allows firms to build a credit rating – new firms are likely to have a low credit rating at first – this makes it harder for them to gain access to credit from banks
  • Firms with a higher credit rating are likely to gain access to credit more easily and at a lower cost
  • Firms with a lower credit rating may experience difficult conditions when borrowing funds – such as higher interest rates on loans


Quick Fire Quiz – Knowledge Check

1. Identify and explain three types of credit (12 marks)

2. Explain how banks are a source of credit (4 marks)

3. Identify and explain four other sources of finance (15 marks)

4. Explain the role and impact of credit in the economy (4 marks)


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