First and foremost thing to understand in this matter is
that the amount of net lending and net borrowing in an economy is always same. It is not
as if amount of one of these has to increase as the amount of other decreases. Both
these variables (lending and borrowings) increase and decrease simultaneously and by
same amount.
Next thing to understand is that interest
rates are affected by many variables other than the demand and supply of funds for
borrowing.In particular the interest rates are affected substantially by the fiscal and
monetary policies of the government.
Also the lowering of
interest rates has two fold increase on the lending institutions such as banks. While
they earn lower interest on the money they lend, they also incur lower cost by way of
interest they pay to their depositors.
Finally, when the
market interest rates are low as a result whatever factors, the industry and business is
encouraged to borrow more, which in turn enables the lending institutions to lend more.
This increase in lending and borrowing, which always move in tandem, contributes to
increase economic activity.
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