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Chapter 10 (Kim Article) - Chapter 10(Kim Moral Harzard...

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Chapter 10 (Kim) Moral Harzard, Systematic Risk, and Bailouts Some companies are “too big to fail” their failure would start a chain reaction where other companies would fail Possibility of one company’s bankruptcy causing a chain reaction through an economy = systematic risk Moral hazard refers to the situation when a decision maker who is insulated from the bad outcomes of the decision may behave differently than one who must endure all consequences of a decision o Those who are insulated are more likely to take greater risks with their decisions o In this financial crisis, moral hazard played a role because large financial companies would not allow major bank failures because of systematic risk History of Systematic Risk and Bailouts A bank run occurs when depositors en masse take their cash out of the bank If banks collapse or stop making loans, this causes the money supply to decrease decreasing money supply inhibits economic growth bank play a critical role in a healthy economy Economists have not been able to avoid systematic risk entirely what has changed over the years is that governments now actively manage economic crisis recessions
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