MORAL HAZARD SMORAL HAZARD: Why the Moral Hazard Argument is Dumb

Isn’t it funny how the free marketeers who caused the current financial crisis are the ones arguing against the necessary steps to stop the bleeding? Of course they don’t base this on anything other than failed dogmatic political beliefs.

Their latest argument, my favorite, the moral hazard has reared its ugly head again. But like before its just another bogus argument:

Bingo:

I wish people would shut up about “moral hazard”. Yes, bridging AIG through its current crisis is not something you want to do; and yes, it would be better if the market solved its own problem. But even a cursory analysts of the serpentine connections between AIG and capital markets tells you that the latter just can’t happen, so you have to hold your nose, be an adult, and live with the former.

Moral hazard, while real sometimes and in some places, is vastly overrated as an effect. Granted, it’s seductive in the same way that risk homeostasis is — the notion that, for example, people drive faster and take more risks because they have seatbelts — but like risk homeostasis, moral hazard is vastly over-diagnosed. People at major financial services outfits don’t project five years into the future and say, “Lever up, boys and girls. We’ll either make a lot of money now, or be bailed out later.” Real people in real markets don’t think that way. Matter of fact, if anything, they’re short-sighted in that regard to a fault.

Further, imagining that people load up with “end of the world” liabilities in an effort to be anointed with “too big to fail” status is muddled non-thinking from run-amok conspiracy theorists. They would be better off sticking to, you know, perhaps denying the Apollo moon landings. Because the idea that a GM can now credibly post-AIG make the case that capital markets will blow up if we don’t assist it too is silly — and suggesting that auto companies (just to pick an example) will now plaster themselves with leverage bombs to make their own “We’re dangerous too!!” case stronger is sillier still.

Ezra:

Plus, the lessons of the bailouts are complicated, in part because of the Federal Reserve’s inconsistency. Do you end up like Bear-Stearns with a total rescue? Like Lehmann Brothers, with total liquidation? Like AIG, with government ownership and an $85 billion loan that has to be paid back at credit card rates? Are you one of the executives who loses their jobs, one of the workers whose department is closed down when the assets are shed, or one of the few who escape unscathed?

If there is a real moral hazard, it comes from the fact that the personal profits of CEO’s and top executives, is not linked to the performance of their firms. Everyday we see corporations file for bankruptcy and yet the top executives running the corporation still receive multimillion dollar severance packages.

Corporations don’t pay their executives to provide a safe, reliable, quality product, they pay them to inflating their stocks. If you’re a top executive for one of these major investment firms why not artificially inflate stock prices or invest solely in high risk high reward bonds? It’s perfectly legal, everyone is doing it, and if everything comes crashing down you don’t have to pay for it and you can still retire $25 million dollars the richer. Let’s face it, the only moral hazard is the golden parachute.

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2 thoughts on “MORAL HAZARD SMORAL HAZARD: Why the Moral Hazard Argument is Dumb

  1. Pingback: The AIG Bailout In Simple Terms « Cognitive Dissonance

  2. Because the idea that a GM can now credibly post-AIG make the case that capital markets will blow up if we don’t assist it too is silly — and suggesting that auto companies (just to pick an example) will now plaster themselves with leverage bombs to make their own “We’re dangerous too!!” case stronger is sillier still.

    Um, isn’t this essentially what the big three are doing right now?

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