Safety Traps

46 Pages Posted: 9 Sep 2013

See all articles by Kenza Benhima

Kenza Benhima

University of Lausanne - School of Economics and Business Administration (HEC-Lausanne); Ecole Polytechnique Fédérale de Lausanne

Baptiste Massenot

University of Toulouse - Toulouse Business School

Date Written: September 2013

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: Business cycles, Japan's lost decade, Risk aversion

JEL Classification: E22, E32

Suggested Citation

Benhima, Kenza and Massenot, Baptiste, Safety Traps (September 2013). CEPR Discussion Paper No. DP9636, Available at SSRN: https://ssrn.com/abstract=2322731

Kenza Benhima (Contact Author)

University of Lausanne - School of Economics and Business Administration (HEC-Lausanne) ( email )

Unil Dorigny, Batiment Internef
Lausanne, 1015
Switzerland

Ecole Polytechnique Fédérale de Lausanne ( email )

c/o University of Geneve
40, Bd du Pont-d'Arve
1211 Geneva, CH-6900
Switzerland

Baptiste Massenot

University of Toulouse - Toulouse Business School ( email )

20, bd Lascrosses
BP 7010
Toulouse, 31068
France

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