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Chapter 15: Moral hazard (page 379)

The term 鈥渕oral hazard鈥� describes increases in risky behavior resulting from efforts to make that behavior safer. How does the concept of moral hazard

apply to deposit insurance and other bank regulations?

Short Answer

Expert verified

A moral hazard is a situation in which one party gets involved in a risky event knowing that it is protected against the risk and the other party will incur the cost.

Step by step solution

01

concept introduction

The entire point of deposit insurance is to prevent bank runs, thus causing the banking system safer.

02

Problems

The problem occurs when a bank knows that the deposit insurance includes covering all its deposits if the bank finally is no longer able to. The bank might stand incentivized to take much higher risks than it would have taken if the Deposit Insurance was not in location.

03

Explanation

If it is signified to be safe in the cause of the bank reaching broke can cause the banking system to be less secure by generating the banks to make more dangerous actions.

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Most popular questions from this chapter

Name and briefly describe the responsibilities of each of the following agencies: FDIC, NCUA, and

OCC.

2. Given the danger of bank runs, why do banks not keep the majority of deposits on hand to meet the demands of depositors?

Explain what would happen if banks were notified they had to increase their required reserves by one percentage point from, say, 9% to10% of deposits. What would their options be to come up with the cash?

In government programs of bank supervision, what is being supervised?

How do expansionary, tight, contractionary, and loose monetary policy affect aggregate demand?
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