During a ﬁnancial crisis, the Fed and other central banks often adopt an "extend and pretend" policy in their emergency lending activities. Which of the following is not a consequence of this policy?

Question

Quizplus · Accepted Answer

The "extend and pretend" policy may have consequences such as limiting the potential for insolvent banks to drag down the solvent ones, enhancing moral hazard, and allowing poorly managed firms to avoid bankruptcy. However, it does not increase the chances of the Fed or another central bank being dragged into its own bankruptcy crisis. This is because central banks have the ability to create money and manipulate the money supply to avoid insolvency.

During a ﬁNancial Crisis, the Fed and Other Central Banks