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Safety Traps

Listed author(s):
  • Kenza Benhima
  • Baptiste Massenot

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.

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File URL: http://www.aeaweb.org/articles.php?doi=10.1257/mac.5.4.68
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File URL: http://www.aeaweb.org/aej/mac/data/2011-0183_data.zip
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File URL: http://www.aeaweb.org/aej/mac/ds/0504/2011-0183_ds.zip
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Article provided by American Economic Association in its journal American Economic Journal: Macroeconomics.

Volume (Year): 5 (2013)
Issue (Month): 4 (October)
Pages: 68-106

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Handle: RePEc:aea:aejmac:v:5:y:2013:i:4:p:68-106
Note: DOI: 10.1257/mac.5.4.68
Contact details of provider: Web page: https://www.aeaweb.org/aej-macro
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  1. Fumio Hayashi & Edward C. Prescott, 2000. "The 1990s in Japan: a lost decade," Working Papers 607, Federal Reserve Bank of Minneapolis.
  2. Bryan S. Graham & Jonathan Temple, 2001. "Rich Nations, Poor Nations: How Much Can Multiple Equilibria Explain?," CID Working Papers 76A, Center for International Development at Harvard University.
  3. Benhima, Kenza & Massenot, Baptiste, 2013. "Safety Traps," CEPR Discussion Papers 9636, C.E.P.R. Discussion Papers.
  4. Bengt Holmstrom & Jean Tirole, 1996. "Private and Public Supply of Liquidity," NBER Working Papers 5817, National Bureau of Economic Research, Inc.
  5. Paul R. Krugman, 1998. "It's Baaack: Japan's Slump and the Return of the Liquidity Trap," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 29(2), pages 137-206.
  6. Abel, A.B., 1990. "Asset Prices Under Habit Formation And Catching Up With The Joneses," Weiss Center Working Papers 1-90, Wharton School - Weiss Center for International Financial Research.
  7. Laurent-Emmanuel Calvet & Paolo Sodini & John Y. Campbell, 2009. "Fight Or Flight? Portfolio Rebalancing by Individual Investors," Post-Print hal-00459683, HAL.
  8. Kraay, Aart & Loayza, Norman & Serven, Luis & Ventura, Jaume, 2004. "Country Portfolios," Policy Research Working Paper Series 3320, The World Bank.
  9. Fumio Hayashi & Edward C. Prescott, 2002. "Data Appendix to The 1990s in Japan: A Lost Decade," Technical Appendices hayashi02, Review of Economic Dynamics.
  10. Benhima Kenza, 2010. "A Reappraisal of the Allocation Puzzle through the Portfolio Approach," Cahiers de Recherches Economiques du Département d'Econométrie et d'Economie politique (DEEP) 10.11, Université de Lausanne, Faculté des HEC, DEEP, revised May 2012.
  11. Epstein, Larry G & Zin, Stanley E, 1989. "Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: A Theoretical Framework," Econometrica, Econometric Society, vol. 57(4), pages 937-969, July.
  12. Bengt Holmstrom & Jean Tirole, 1997. "Financial Intermediation, Loanable Funds, and The Real Sector," The Quarterly Journal of Economics, Oxford University Press, vol. 112(3), pages 663-691.
  13. Michele Boldrin & Lawrence J. Christiano & Jonas D. M. Fisher, 2000. "Habit persistence, asset returns and the business cycle," Staff Report 280, Federal Reserve Bank of Minneapolis.
  14. Angeletos, George-Marios & Panousi, Vasia, 2009. "Revisiting the supply side effects of government spending," Journal of Monetary Economics, Elsevier, vol. 56(2), pages 137-153, March.
  15. G. Constantinides, 1990. "Habit formation: a resolution of the equity premium puzzle," Levine's Working Paper Archive 1397, David K. Levine.
  16. Ricardo J. Caballero & Takeo Hoshi & Anil K. Kashyap, 2006. "Zombie Lending and Depressed Restructuring in Japan," NBER Working Papers 12129, National Bureau of Economic Research, Inc.
  17. Jermann, Urban J., 1998. "Asset pricing in production economies," Journal of Monetary Economics, Elsevier, vol. 41(2), pages 257-275, April.
  18. Peter Howitt & R. Preston McAfee, 1988. "Stability of Equilibria with Externalities," The Quarterly Journal of Economics, Oxford University Press, vol. 103(2), pages 261-277.
  19. Woodford, Michael, 1990. "Public Debt as Private Liquidity," American Economic Review, American Economic Association, vol. 80(2), pages 382-388, May.
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