The long-run effects of risk: an equilibrium approach

Advanced economies tend to have large financial sectors which can be vulnerable crises. We employ a DSGE model with banks featuring limited liability investigate how risk shocks in the sector affect long-run macroeconomic outcomes. With full deposit insurance, expand balance sheets when increases, leading higher investment and output. no we observe substantial drops credit provision, investment, Reducing moral hazard by lowering fraction of reimbursed deposits case bank default increases probability equilibrium. The under regime insurance is more than 50% for high levels risk. These differences provide novel argument favor insurance. Our welfare analysis finds that increased always reduces welfare, except there deadweight costs from are small.