Courses on Khan Academy are always 100% free. Start practicing-and saving your progress-now: www.khanacadem... What leverage is. Why it is is good or bad. Leverage and insolvency. More free lessons at: www.khanacademy...
In finance, leverage (or gearing in the United Kingdom and Australia) is any technique involving borrowing funds to buy things, hoping that future profits will be many times more than the cost of borrowing. This technique is named after a lever in physics, which amplifies a small input force into a greater output force, because successful leverage amplifies the comparatively small amount of money needed for borrowing into large amounts of profit. However, the technique also involves the high risk of not being able to pay back a large loan. Normally, a lender will set a limit on how much risk it is prepared to take and will set a limit on how much leverage it will permit, and would require the acquired asset to be provided as collateral security for the loan. Leveraging enables gains to be multiplied. On the other hand, losses are also multiplied, and there is a risk that leveraging will result in a loss if financing costs exceed the income from the asset, or the value of the asset falls.
but if the loan holders can only pay 50 each out of the 300, wouldn't that impact they C.A some how? why would the C.A for those same loan holders still be counted as 600 (total) in liabilities even though they can only pay 50 of the loan?
@thehashcat debt equity ratio is good when you want to calculate the debt of a company or in this case a bank. It is used more realistically then A:E ratios because usually for a bank the debts are much higher then what they have in there equity, hence govt balilouts. D:E is also primarily used for calculations on stock/ options prices.
Very true! just to share with everyone - I saw a series of views on RU-vid titled "Crash of 2008" back in March 2008 - where this former market maker made exactly the same point. Recommended
the wonders of a banking system that doesn't need money that you can touch with your hands. if the borrower paid, say a contractor, with the money than the borrower would owe the bank 3000GP + interest and the bank would owe the contractor 3000GP. This like you said could create a liquidity problem, since the bank can't pay the contractor in GP before the borrower paid it back. But since the contractor knows that the bank is good for the money, he probably doesn't want the money physically.
@missmitalik there is really no safe value for debt leverage. For example if the Federal Reserve calls in all loans like in the great depression, or it drastically decreased like in the GFC (huge mortgages) then there will be too much debts and not enough paper money floating around.
This is prob a dumb question but, how is it a liability when you give someone a loan, it's not like you owe them money??? Could someone please explain this to me thnks
also, since there are millions of loans given out and paid back everyday, this problem pretty much arises from this example, where there is only one loan given out.
