Bank Risk Taking and Central Bank Lending in Financial Crises

In this paper, we study the long-run impact of the central bank lending at low-interest rates to banks in times of financial crisis. While the provision of such funding mitigates the impact of financial crises ex post, we find that it increases bank risk taking ex ante, and therefore increases the likelihood of financial crises. Despite more frequent crises, however, the long-run impact on the macroeconomy is beneficial, as the positive effect from low interest-rate funding mitigates the contraction of credit at the height of a crisis. The long-run impact on the macroeconomy, however, is quantitatively small.