How does the stability of the financial system affect risk-free investments?

The stability of the financial system can have an impact on riskfree investments. In a stable financial system, the riskfree rate of return tends to be relatively low, as there is less uncertainty and less need for investors to demand a higher return to compensate for risk. On the other hand, in an unstable financial system, the riskfree rate of return may be higher, as investors demand a higher return to compensate for the higher risk.

For example, during times of economic crisis or uncertainty, such as a recession or financial market volatility, investors may shift their investments to riskfree assets, such as government bonds, which are perceived to be safer than other investments. This increased demand for riskfree investments can drive down yields and lead to lower interest rates, which can benefit borrowers but may not be as attractive for investors seeking higher returns.