The period preceding the global ﬁnancial crisis that started in 2008 was one characterized by ample liquidity, a credit boom, and low yields in a wide range of asset classes. It was also deﬁned by the accumulation of risks on and oﬀ the balance sheets of many ﬁnancial intermediaries, particularly banks, as well as a substantial increase in public and private sector debt in some countries. Under standing the relation between liquidity and the excessive accumulation of risks remains a central policy question. How do credit booms aﬀect incentives? In the case of the government sector, credit booms may aﬀect the incentives of diﬀerent interest groups to agree on policies for reform or ﬁscal stabilization. In the case of the private sector, it may change the incentives that originators have to produce good assets. Credit booms complicate inference and make it diﬃcult to evaluate the beneﬁts and costs of alternative policies and strategic choices as well as monitor agents. Finally, credit booms facilitate the entrenchment of interest groups and may lead to a deterioration of governance institutions.
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