(Solved):The federal government promises to help banks that get into financial problems. Is this an adverse selection problem or a moral hazard problem? Explain. View Answer…

 

Question

The federal government promises to help banks that get into financial problems. Is this an adverse selection problem or a moral hazard problem? Explain.

 

EXPERT ANSWER

When the Fed renders a promise to banks to assist them when financial problems arise, this is a moral hazard. In a moral hazard, the insured party tends to depict low incentive in ensuring safety against the occurrence of the risk they are insured against. Therefore,

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