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Evaluating a Policy to Mitigate Moral Hazard
A country's financial regulators are concerned that its largest banks are taking on excessive risk because they are widely considered 'too big to fail' and thus implicitly guaranteed against collapse. As a countermeasure, the regulators propose a new policy: requiring these specific large banks to hold significantly more of their own funds (capital) in reserve relative to their total assets, compared to smaller banks. Critically evaluate this policy. In your response, discuss both its potential effectiveness in discouraging risky behavior and any potential unintended negative consequences for the banks or the broader economy.
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Economics
Economy
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Science
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