Moral Hazard Misconceptions: The Case of the Greenspan Put

Gideon Bornstein, Guido Lorenzoni*

*Corresponding author for this work

Research output: Contribution to journalArticlepeer-review

1 Scopus citations

Abstract

Policy discussions on financial regulation tend to assume that whenever a corrective policy is used ex post to ameliorate the effects of a crisis, there are negative side effects in terms of moral hazard ex ante. This paper shows that this is not a general theoretical prediction, focusing on the case of monetary policy interventions ex post. In particular, we show that if the central bank does not intervene by monetary easing following a crisis, an aggregate demand externality makes borrowing ex ante inefficient. If instead the central bank follows the optimal discretionary policy and intervenes to stabilize asset prices and real activity, we show examples in which the aggregate demand externality disappears, reducing the need for ex ante intervention.

Original languageEnglish (US)
Pages (from-to)251-286
Number of pages36
JournalIMF Economic Review
Volume66
Issue number2
DOIs
StatePublished - 2018

ASJC Scopus subject areas

  • Business, Management and Accounting(all)
  • Economics, Econometrics and Finance(all)

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