Safety Traps

Kenza Benhima and Baptiste Massenot ()

Cahiers de Recherches Economiques du Département d'économie from Université de Lausanne, Faculté des HEC, Département d’économie

Abstract: Fear of risk provides a rationale for protracted economic downturns. We develop a real business cycle model where investors with decreasing relative risk aversion choose between a risky and a safe technology that exhibit decreasing returns. Because of a feedback effect from the interest rate to risk aversion, two equilibria can emerge: a standard equilibrium and a "safe" one in which investors invest in safer assets. We refer to the dynamics of this second equilibrium as a safety trap because it is self-reinforcing as investors accumulate more wealth and show it to be consistent with Japan's lost decade.

Keywords: decreasing relative risk aversion; reference consumption; business cycles; Japan's lost decade (search for similar items in EconPapers)
JEL-codes: E22 E32 (search for similar items in EconPapers)
Pages: 41 pp. + figures and table
Date: 2012-05
New Economics Papers: this item is included in nep-dge and nep-mac
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http://www.hec.unil.ch/deep/textes/12.04.pdf (application/pdf)

Related works:
Journal Article: Safety Traps (2013)
Working Paper: Safety Traps (2013)
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Persistent link: https://EconPapers.repec.org/RePEc:lau:crdeep:12.04

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