essays on moral hazard

What is Moral Hazard?

The origin of the issue of moral hazard, an example of a moral hazard situation, related readings, moral hazard.

A situation when an individual can take advantage of a deal or situation, knowing that all the risks and fallout will land on another party

Moral hazard refers to the situation that arises w hen an individual has the chance to take advantage of a financial deal or situation, knowing tha t all the risks and fallout will land on another party. It means that one party is open to the option – and therefore the temptation – of taking advantage of another party.

The secondary party is the one that suffers all the consequences of any risks taken in a moral hazard situation, leaving the first party free to do as they please, without fear of responsibility. They are able to ignore all moral implications and act in a way that is most beneficial to them.

The phrase “moral hazard” originally comes from the insurance world and is based largely on the fact that each party has different information regarding a situation – specifically, differing information on the actual level of risk.

The issue of misinformation or unequal information is that both parties are not on the same page. Such an issue is dangerous in any business situation, but particularly so in regard to taking out insurance. The party acquiring insurance intends to act in a way that benefits them most, knowing the insurance covers any risks taken. The information is typically not passed on to the insurance company because it would typically result in either higher premium requirements or the inability to obtain the insurance policy.

One of the best examples of a possible moral hazard situation relates to the circumstances and actions that arose during the aftermath of the financial crisis/housing market crash of 2008. Many of the major banks were sinking like ships with holes, having lost billions in asset value, and the US Federal Government stepped in and bailed them out.

It’s generally believed that as a result of that chain of events, many banks are under the impression that if they ever fall on hard times, the government is going to be there to bail them out. This leads to a moral hazard situation because, rather than taking effective action to prevent overexposure in the future, banks are then more likely to continue making risky loans if doing so offers temporary gains that are beneficial to them.

The moral hazard situation existing between the banks and the US Government is a true example of both one party (the bank) taking advantage of another (the federal government, and ultimately, the taxpayers) and misinformation (the banks are presenting themselves as having amended their policies to avoid future risk, when in practice they may continue to overextend themselves financially).

Moral hazard is a tricky situation that makes for unfair and sometimes dangerous financial transactions. Insurance and other financial arenas operate best when moral hazard situations don’t arise.

Both parties entering into a financial relationship should have equal knowledge of the situation and benefits according to each party’s actions. When situations of moral hazard arise, the relationships become, at best, muddled, and, at worst, dangerous.

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The Power of Independent Thinking

This book is a collection of essays discussing aspects and particular cases of moral hazard. The main focus is on how government intervention in the financial system and related industries can lead to moral hazard, which the editors define as “the reduced incentive to protect against risk where an entity is (or believes it will be) protected from its consequences” (preface).

This review summarizes the individual chapters with added commentary on what I think is right, wrong, or missing. I will start with the financial sector and industry case studies before returning to the moral and ethical questions.

Chapter 3, “Moral Hazard and Lending of Last Resort,” by Stefano Ugolini outlines the debate between Walter Bagehot and Thomson Hankey at the origin of central banking and the doctrine of last resort lending. Bagehot, while skeptical of central banking in general, argued that given the existence of such a bank, it should be obligated to act as a last-resort lender but only under strict conditions such as requiring good collateral and not lending to unsound banks. Hankey opposed such activities on the grounds that central banks, in particular the Bank of England, are unlikely in practice to maintain a strict policy as Bagehot recommended. Indeed, Ugolini finds that Hankey was largely correct that modern central banks have not adhered to Bagehot’s rules for last resort lending, just as my coauthors and I found regarding the Federal Reserve’s actions in the 2008 financial crisis (Thomas L. Hogan, Linh Le, and Alexander William Salter, 2015, Ben Bernanke and Bagehot’s Rules, Journal of Money, Credit and Banking 74, no. 2/3: 333 – 348). Ugolini also argues, rightly in my view, that last resort lending is often inappropriately modeled in the economic literature as a form of deposit insurance.

Two chapters extend the discussion of moral hazard from government intervention in financial markets. Chapter 7, “The Institutionalization of Bailouts, 1970 – 1984” by Norbert Gaillard and Rick Michalek, documents the historical trends of government interventions, culminating in the rescue of financial institutions deemed “too big to fail” (TBTF). The authors trace this doctrine from the failure of Penn Central Railroad in 1970 through Franklin National Bank in 1974 to Continental Illinois National Bank in 1984, demonstrating the incremental steps by which TBTF became institutionalized as official policy. The authors note that this result “appears to run counter to economic as well as political liberalism” (p. 150).

Despite the title, “Design and Cost of U.S. Responses to the 2007 – 2009 Financial Crisis and the 2020 Covid-19 Pandemic” by Cheryl D. Block, chapter 9 does not adequately account for the costs of moral hazard created by government intervention. The chapter shows how emergency lending facilities in both crises were thrown together ad hoc rather than based on a predefined plan. Oddly, however, the author states that “the Federal Reserve’s COVID crisis interventions may cost the government little or nothing—and may even result in profits” (p. 191). While that may be true in a strict accounting sense, it understates the costs of intervention such as institutional uncertainty discussed in the chapter as well as in my own research (Nicolás Cachanosky, Bryan P. Cutsinger, Thomas L. Hogan, William J. Luther, and Alexander W. Salter, 2021, The Federal Reserve's Response to the COVID-19 Contraction: An Initial Appraisal, Southern Economic Journal 87, no. 4: 1152 – 1174).

Chapters 5 and 6 focus on international last resort lending. “The International Lender of Last Resort between Scylia and Charybdis” by Juan Flores Zendejas and Norbert Gaillard tracks the evolution of unofficial international last resort lending, highlighting the effects of both debtor and creditor moral hazard from the nineteenth century Pax Britannica up to the current day. This includes early central banks and the League of Nations as well as more recent institutions such as the World Bank and International Monetary Fund (IMF). “Moral Hazard at the IMF: An Analysis of the Fund’s Policies and Status” by Giuseppe Bianco focuses on the tools used by the IMF to minimize moral hazard from sovereign debtors, their creditors, and the IMF itself. Both chapters discuss methods of limiting moral hazard while acknowledging that significant risks remain. They provide valuable historical accounts, but I think they understate the moral hazard created by government sponsorship of these nongovernmental entities with no adequate means of monitoring or punishing irresponsible lending practices.

Chapter 4, “Moral Hazard in the Export Credit Industry” by Aline Darbellay and Norbert Gaillard, focuses on the activities of export credit agencies (ECAs) and export-import banks (EIBs), especially the U.S. Export-Import (ExIm) Bank. ECAs and EIBs have proliferated over the past century despite suffering moral hazard from both financial and political means. The problems are illustrated using the U.S. ExIm Bank, which faces moral hazard from foreign debtors and domestic exporters as well as from the U.S. Congress. A major source of these distorted incentives is that these entities tend to be political in nature rather than economic. As the authors describe, “ECAs and EIBs are still a foreign policy tool and their programs continue to benefit only a very few economic sectors” (p. 57).

Chapter 8, “Varieties of Moral Hazard in the Global Automobile Industry” by Fumihito Gotoh and Timothy J. Sinclair, argues that national auto industries are subject to moral hazard from government policies as well as “short-termist financial capitalism.” Because it was partly state-owned, the French automaker Renault exposed taxpayers to unnecessary and unmonitored risk in its acquisition of Japanese Nissan. The strange example of “financial capitalism” causing moral hazard is that General Motors (GM) failed to adequately invest in research and development due to excessively generous healthcare and retirement benefits for its workers. It is unclear, however, why capitalism should be faulted for this mistake, if it is moral hazard at all, since the decision was motivated by poorly structured tax incentives that favor employer-based healthcare over competitive provision.

I found the least convincing chapter to be Rutger Claassen’s “The Ethics of Moral Hazard Revisited.” Claassen argues that insurance contracts form a fiduciary duty between the insured and the pool depositors. However, this structural description is surely a very limited case. The author argues that “[m]any private insurance schemes fit this description” (pp. 25 – 26), but it most aptly applies to a small subset of mutual insurance cooperatives and is irrelevant for bilateral contacts or financial instruments. The chapter sets up a “public policy trilemma” and assumes public insurance to be a “moral requirement” (p. 30), but it provides no evidence for this assumption and ignores the real-world costs of public insurance programs.

This brings me to a few ambiguities I noticed repeatedly throughout the book. First, there is no consistent distinction between private and government-mandated moral hazards. A review of the literature on deposit insurance (see Thomas L. Hogan and Kristine Johnson, 2016, Alternatives to the Federal Deposit Insurance Corporation, The Independent Review 20, no. 3 [Winter], 433 – 454), for example, finds that government deposit insurance programs are more affected by moral hazard and exhibit higher rates of bank failures and financial crises relative to their private counterparts. Second, the book often mentions “social costs” or “social welfare,” but I found this language confusing. In many cases of moral hazard, one group is harmed, and another gains. Why not be specific about the winners and losers? Third, I found the book’s definition of moral hazard to be a bit vague. Seatbelts, for example, fit the definition of “the reduced incentive to protect against risk where an entity is (or believes it will be) protected from its consequences,” but they do not exhibit asymmetric information as typically associated with moral hazard. It would have been helpful to have more discussion and examples of what is and is not moral hazard.

Overall, I found the book more useful for the factual examples and historical case studies than for learning generally about moral hazard. Readers should read with a skeptical eye, as many of the chapters fail to fully recognize the costs of the supposed solutions to government-induced moral hazards.

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Moral Hazard in Finance, Essay Example

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Moral hazard refers to a situation in which a party to a transaction has not entered the contract in good faith, has provided misleading information, or has an incentive to take unusual risks in the pursuit of profits before the completion of the contract (Investopedia). The recent financial crisis is considered by many to be the worst since the Great Depression and has forced many among us to question the ability of the markets to regulate themselves effectively. One of the reasons why markets do not always function efficiently is the existence of moral hazard.

One of the major contributors to moral hazard in finance is expectation of help/rescue in case things go wrong. Moral hazard exists at both individual and organizational levels. One of the organizations that have been accused of creating moral hazard is IMF which often provides rescue funding to troubled economies as is evident by its rescue of Mexico for $18 billion in 1995. IMF followed by approving lending programs for Thailand, Indonesia, South Korea, and Brazil etc. (Dreher) The expectation that IMF will rescue if things go wrong leads countries to inefficient management of their finances because they do not expect the worst case scenarios to materialize.

Moral hazard also exists due to lack of accountability. As Wharton Finance Professor Richard J. Herring states, the government response to the recent financial crisis has created even more moral hazard because lenders to financial institutions have not suffered the same losses as stockholders. Similarly, another Wharton Finance Professor Franklin Allen claims that the government response has rewarded failure because the largest companies will know in the future that they are “too big to fail”, thus, the government will bail them out if things go wrong. Wharton Finance Professor Marshall E. Blume points out that many people who created the bubble exited the market before the collapse and made huge money (Knowledge@Wharton), thus, they were not held accountable for the mess they created.

Moral hazard also exists because the decision maker doesn’t face the full consequences of his actions. As example is an asset manager who profits by investing others’ money but is not wholly responsible for any loss of capital. Thus, he is more willing to take risky steps in order to earn higher return because his personal gains are directly related to the returns earned by his fund. In other words, the rewards are much greater than the potential costs. Another factor that contributes towards moral hazard are poorly designed incentive systems. During the housing boom, mortgage officers were not compensated on the basis of issuing quality mortgage loans or minimizing risk but instead on the volume. This is why mortgage officers gave little attention to the risk they were creating and more to mortgage loans turnover (Okamoto).

Moral hazard also exists because of conflicts of interest. Credit rating agencies obtain most of their revenues from organizations selling the bonds. During the financial crisis, credit rating agencies assigned Triple A ratings to several deals which ultimately turned out to be quite risky. But credit rating agencies did well at least until 2007, with Moody’s enjoying a sixfold increase in its stock price between 2000 and 2007. While issuing Triple A ratings helped credit rating agencies earn record revenues, they have paid little price for the erroneous ratings they issues which is why there are now calls for increasing the accountability of credit rating agencies (Duyn).

Moral hazard also exists if there is a security net as in the case of FDIC insurance that provides protection on bank deposits up to a certain amount. In this case, banks will take less care in ensuring they do not take excessive risks on deposited funds while consumers will have little incentive to do research on the health of the bank in which their deposits reside.

The recent financial crisis has not only shown us several instances of moral hazard but has also increased the probability of moral hazards in the future. The government has bailed out several banks and financial organizations including Citibank, Goldman Sachs, Morgan Stanley, AIG, and Wells Fargo (ProPublica) which sends message to the markets that the government will always be there as a lender of the last resort, thus, banks and financial institutions have really small probability of going out of business, even in the worst case scenarios.

The government has also increased moral hazard among the general public due to policies that may be politically beneficial but introduce inefficiencies in the economic system. The U.S. Government created Freddie Mac and Fannie Mae to increase home ownership among the American public which is why Freddie Mac and Fannie Mae issued substantial mortgage loans during the housing boom that should not have been made in the first place due to buyers’ credit worthiness. The purpose of these two organizations forces them to ignore certain safety measures that may be taken by private mortgage organizations whose sole purpose is profit maximization.

The concept of moral hazard in finance has existed for centuries now as is evident by financial crisis that occurred in Europe even before the founding of the U.S. There are several factors that increase the probability of moral hazard such as poorly designed incentive systems, lack of accountability, future expectations as a result of events such as financial rescue and bailouts, and conflicts of interest. The key to reducing moral hazards is to increase accountability for decision makers and set precedents such as the failure of Lehman Brothers so that financial organizations know they may be forced to bear the full consequences of their actions.

Dreher, Axel. Does the IMF cause moral hazard? A critical review of the evidence. Exeter: School of Business and Economics, University of Exeter, March 2004.

Duyn, Aline van. Reform of rating agencies poses dilemma. 10 June 2010. 21 February 2013 <http://www.ft.com/intl/cms/s/0/a374a2be-74b3-11df-aed7-00144feabdc0.html#axzz2Layp0K2s>.

Investopedia. Moral Hazard. 21 February 2013 <http://www.investopedia.com/terms/m/moralhazard.asp#axzz2LZXLzHF6>.

Knowledge@Wharton. ‘Rewarding Failure’: Will the Crisis Leave a Residue of Moral Hazard? 8 July 2009. 21 February 2013 <http://knowledge.wharton.upenn.edu/article.cfm?articleid=2282>.

Okamoto, Carl S. “After the Bailout: Regulating Systematic Moral Hazard.” UCLA Law Review 2009: 183-236.

ProPublica. Bailout Recipients. 21 February 2013 <http://projects.propublica.org/bailout/list>.

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Moral Hazard

Example of moral hazard, history of moral hazard, adverse selection, example of adverse selection, the bottom line, understanding the difference between moral hazard and adverse selection.

Moral hazard and adverse selection both describe situations where one party is at a disadvantage as a result of another party's behavior.

Moral hazard occurs when there exists asymmetric information between two parties, and the behavior of one party changes after an agreement is struck between them. Adverse selection occurs in transactions where one party has more information than the other about product quality and exploits it.

Key Takeaways

• Moral hazard and adverse selection are both terms used in economics, risk management, and insurance to describe situations where one party is at a disadvantage to another.
• Moral hazard occurs when one party entering into the agreement provides misleading information or changes their behavior after the agreement has been made because they believe that they won't face any consequences for doing so.
• Adverse selection occurs in transactions where one party has more information about product quality than the other and takes advantage of this discrepancy.

Moral hazard occurs when one party entering into an agreement provides misleading information, or when they change their behavior after an agreement has been made. This occurs when a person or an entity does not bear the full cost of risk, which can lead them to increase their exposure to it. Often, this decision is made to obtain higher levels of benefit.

Moral hazard arises in instances when one party provides false information about their assets, liabilities, or credit capacity. It can occur in various settings, including banking, the insurance industry, and the workplace.

Assume a homeowner does not have homeowner's insurance or flood insurance but lives in a flood zone. The homeowner is very careful and subscribes to a home security system that helps prevent burglaries. When there are storms, they prepare for floods by clearing the drains and moving furniture to prevent damage.

However, the homeowner is tired of always having to worry about potential burglaries and preparing for floods, so they purchase home and flood insurance. After their house is insured, their behavior changes. They cancel their home security system subscription and they do less to prepare for potential flooding. The insurance company is now at a greater risk of having a claim filed against them as the result of damage from flooding or loss of property. This is an example of moral hazard.

According to research by economists Allard E. Dembe at Ohio State University and Leslie I. Boden at Boston University, the term "moral hazard" was widely used by insurance agents in England. Although early usage of the term implied fraudulent and immoral behavior, at times the word "moral" has also been used to simply refer to subjective behavior in the field of mathematics, so the ethical implications of the term are not fixed. In the 1960s, moral hazard became a subject of study again among economists. At this time, rather than serve as a description of the morals of involved parties, economists used moral hazard to refer to inefficiencies created when risks cannot be fully understood.

Adverse selection describes a situation in which one party in a deal has more accurate information than the other. The party with less information is at a disadvantage to the party with more information. This asymmetry causes a lack of efficiency in the price and the number of goods and services provided. Most information in a market economy is transferred through prices, which means that adverse selection tends to result from ineffective price signals.

For example, assume there are two sets of people in the population: those who smoke and do not exercise, and those who do not smoke and who exercise. It is common knowledge that those who smoke and don't exercise have shorter life expectancies than those who don't smoke and choose to exercise. Suppose there are two individuals who are looking to buy life insurance, one who smokes and does not exercise, and one who doesn't smoke and exercises daily. The insurance company, without further information, cannot differentiate between the individual who smokes and doesn't exercise and the other person.

The insurance company asks the individuals to fill out questionnaires to identify themselves. However, the individual that smokes and doesn't exercise knows that by answering truthfully, they will incur higher insurance premiums. This individual decides to lie and says they don't smoke and exercise daily. This leads to adverse selection; the life insurance company will charge the same premium to both individuals. However, insurance is more valuable to the non-exercising smoker than the exercising non-smoker. The non-exercising smoker will require more health insurance and will ultimately benefit from the lower premium.

Insurance companies reduce exposure to large claims by limiting their coverage or raising premiums. Insurance companies attempt to mitigate the potential for adverse selection by identifying groups of people who are more at risk than the general population and charging them higher premiums. The role of life insurance underwriters is to assess applicants for life insurance to determine whether or not to give them insurance or how much premiums to charge them. Underwriters typically evaluate any issue that may impact an applicant's health, including but not limited to an applicant’s height, weight, medical history, family history, occupation, hobbies, driving record, and smoking habits.

What Is An Example of Adverse Selection?

Other examples of adverse selection include the marketplace for used cars, where the seller may know more about a vehicle's defects and charge the buyer more than the car is worth. In the case of auto insurance, an applicant may falsely use an address in an area with a low crime rate in their application in order to obtain a lower premium when they actually reside in an area with a high rate of car break-ins.

What Is the Difference Between a Moral Hazard and a Morale Hazard?

In an insurance context, moral hazard is sometimes distinguished from a closely related idea known as " morale hazard ." Both terms describe changes in a party's behavior after they have obtained insurance. However, moral hazard refers to conscious risk-taking that the party might engage in now that they no longer have to bear risk. In contrast, morale hazard refers to a a subconscious level of indifference to risk, rather than active choices to expose oneself to it.

What Are the Two Types of Moral Hazard?

Moral hazard can be broken into two types based on the timing of one party's risk-taking behavior. Ex-ante moral hazard occurs when a party engages in risky actions before a specific outcome occurs, whereas ex-post moral hazard occurs after.

Take the classic health insurance example: Say an individual obtains health insurance and subsequently begins to engage in risky activities and behaviors, knowing that any potential health problem won't incur costs on them. This is a form of ex-ante moral hazard, as the risky behavior is taking place before any event that would trigger an insurance payout has occurred.

On the other hand, ex-post moral hazard would occur if the party got into an accident but exaggerated the costs associated with recovery or opted for unnecessary medical treatments to their own benefit.

Both moral hazard and adverse selection describe situations with undesired outcomes due to information asymmetry between two parties. The main difference is when it occurs. In a moral hazard situation, the change in the behavior of one party occurs after the agreement has been made. However, in adverse selection, there is a lack of symmetric information prior to when the contract or deal is agreed upon.

Dembe, Allard, Boden, Leslie I. “ Moral Hazard: A Question of Morality? ” Journal of Environmental and Occupational Health Policy , vol. 10, no 3, February 2000, pp. 258-260.

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Moral Hazard and Insurance Contracts

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• Ralph A. Winter 3  

Part of the book series: Huebner International Series on Risk, Insurance and Economic Security ((HSRI,volume 13))

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This essay synthesizes and extends the theory of optimal insurance under moral hazard, with a focus on the form of insurance contracts. The simplest model illustrates the most fundamental result: that the market responds to moral hazard with partial insurance coverage. But this model is not general enough to predict the contractual form of this response. The most general model, the Principal-Agent model, yields mostly negative results. In extending the theory, I adopt an intermediate approach, distinguishing between moral hazard on the probability of an accident and moral hazard on the size of the loss. This approach generates predictions as to when deductibles, coinsurance and coverage limits will be observed. The essay reviews as well moral hazard with a partially informed insurer and dynamic models of moral hazard. It concludes with a discussion of open questions in the theory of moral hazard and insurance.

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Optimal Insurance Contracts Under Moral Hazard

Adverse selection in insurance contracting.

On the design of optimal health insurance contracts under ex post moral hazard

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Winter, R.A. (1992). Moral Hazard and Insurance Contracts. In: Dionne, G. (eds) Contributions to Insurance Economics. Huebner International Series on Risk, Insurance and Economic Security, vol 13. Springer, Dordrecht. https://doi.org/10.1007/978-94-017-1168-5_3

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Moral Hazard in the Companies Essay

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Aligning Interest

Variable payment, attitude towards risk, investment in location, length of tenants lease, comparison of tenants.

One of the potential ways in which the company would be subject to moral hazard comes in the form of not fully complying with the duties of being a landlord. This comes in the form neglecting to properly maintain the mall for potential customers of the tenants.

A variable payment scheme aligns the interest of the landlord and tenant through the process of percentile gain. Basically, the more sales a tenant has, the greater the amount of money the landlord generates. As such, it is in the interest of the landlord to support the tenant since this would result in higher profits for the landlord in the long term.

In the case of the tenant supporting the landlord, it should be noted that the variable payment scheme ensures that the mall itself is serviced and maintained properly by the landlord since that is where a percentage of the payments would go towards. This ensures that the mall continues to be a viable investment for the landlord in the long term.

When looking at the case and the various factors associated with the sale of goods and services, it is advisable that a gross revenue scheme be chosen. The reason behind this is that the mall operator will have a vested interest in ensuring the tenant will make money whereas under the net revenue option there is the potential moral hazard that the landlord would just collect payments without implementing any form of support since whether or not the tenant makes money does not impact them in the least.

Variable payment should increase or decrease based on the landlord’s perception regarding the risk associated with the type of tenant renting. Anchor tenants in malls (i.e. McDonalds, Starbucks, etc.) can be deemed as being low risk and should have a low variable payment rate. While small independent stores that are relatively unknown are thus more risky (i.e. fewer people may buy) and, as such, should have a higher variable payment rate. This is also because another more famous tenant could have rented the same space.

Not all locations are created equal within a mall with some areas generating lower levels of foot traffic as compared to others. As such, giving a lower rate for certain areas is advisable so as to ensure fairness when it comes to rental management practices. One of the ways in which this can be accomplished would be to retain the standard of 1% of the client’s gross revenue while reducing the fixed monthly rate of $35 – $38 to $25 – $28 for areas with lower foot traffic.

The average length of a tenants lease should be two years at most. This is due to the fact that the landlord may need to change the contract agreements to better align with increased costs due to inflation (i.e. increase the fixed monthly payment). Also, a length of two years would be viable for tenants since it ensures that they are not locked into a lengthy contract wherein they lose more money than they gain due to a lack of product patronage.

When looking at the various malls, it can be speculated that the types of tenants for the IMM Building would be tenants that are looking for an area with a large square footage for their store along with sufficient warehouse space for their products. These are all factors that can be seen in the IMM building due to the 1,426,518 square feet available for retail. Some possible tenants would be big box stores such as Home Depot or various furniture retailers like Ikea.

Centrepoint Properties would attract smaller independent retailers due to the fixed monthly rental charges which would enable them to price their products competitively. The mall developed by Maple Tree investments would attract more mid to high end restaurant tenants given its proximity to the central business district of Singapore which would result in many office workers going there for lunch or dinner.

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Moral Hazard Essays

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Moral Hazard and Banking Relations

Introduction

Article review, works cited.

Banking crises have far reaching effects on the entire economy and in the past two decades, the frequency of these crises has increased. Banks have throughout history engaged in the business of money-lending. This business is said to pose a moral hazard to society through the inherent dangers of debt. The issue of moral hazard has come under the spotlight in the past few years following the financial crisis that have been experienced. The risk of moral hazard arises when a banking institute takes on an unmanageable level of risk in light of the fact that the central bank will intervene and bail out the institute should failure occur. The readiness of the central bank to support the facility is assured since the institute failure is presumed to adversely affect the stability of other institutions or even the confidence of the entire financial markets. The Article “Moral Hazard on Steroids” by Cooley Thomas aims to address the dangers that come about from protecting people or firms against risk. The article asserts that moral hazard is being heightened by the willingness of the government to bail out failing firms.

Cooley begins his article by reminding us of the warning to be wary of Moral Hazard fundamentalists issued by an optimistic Summers Larry. This warning assumed that central banks could be trusted to make prudent judgments during financial crises. These judgments would be made by considering the contagion effects and ensuring that the actions do not impose costs on taxpayers. However, this optimistic perception was wrong since central banks engage in public action even when it imposes costs on taxpayers. This is because while regulatory policies are effective in responding to financial crisis that occur, they do not always respond in the most astute manner

The article highlights the principle behind moral hazard as protecting people or firms against risks. However, this protection invariably results in the encouraging of more risk taking. While government policy interventions are designed to stabilize the financial market and avoid crisis in the financial system, the policies seem to create more crisis in recent years. The promise of government bail out has resulted in financial lenders practicing little to no prudence as they seek to make economic returns that are of greater value than the input. This behavior invariably imposes costs upon the tax payers who have to bear the risk and monetary cost that comes from failure. Cooley proposes that firms which gamble should be made to suffer the consequences of their actions. As it is, banks are in the habit of choosing a risky asset portfolio that promises high profits should the gamble succeed. However, if the gamble fails it is the depositors of their insurers who are made to face the losses.

While the failure of Lehman Brothers should have provided a chance for changes in how the government deals with the moral hazard issue, the author fears that policy makers may have taken the wrong lesson from the disaster. While the disaster should have led to restructuring of important firms to avoid such future failures, it led to more bailouts and guarantees being promised. The author notes that while government intervention was necessary, it had the negative effect of precipitating the next crisis. If banks are obligated to hold sufficient capital, they will be able to internalize any losses that can come about from gambling and this will undoubtedly result in more prudent investments being made by the bank. This is a fact since capital requirements reduce the incentive for banks to gamble by putting bank equity at risk.

Financial firms have insurance programs in place which are supposed to provide financial support. In times of financial crisis, the Federal Reserve acts as a lender of last resort and the insurance it provides is borne by the tax payer. The article notes that whole this role of last resort lender has been existence for decades; the penalty rate that was traditionally imposed is no longer there. In addition, the Federal Reserve now offers its services to an even more expanded list of firms. The government policy for bailing out banks is well-meaning but misguided since it is paving the way for more failures. Instead of extending its lending services, the Federal Reserve should exercise restraint. The role of government as the deposit insurer should be based on the level of capital that the firm holds and on whether the bank has gambled or investing prudently.

The article also questions the wisdom behind labeling some firms as too big to fail and therefore the government is obligated to do whatever is necessary to keep banks in business. Such a notion provides guarantees to the institutes and this guarantee is footed by the taxpayer. This policy of intervening with financial support if institutes that are considered “too big to fail” exacerbates the issue of moral hazard. This is because such firms have little incentive to exhibit caution or prudence in their operation since they are not at a risk of losses. Such institutes can engage in harmful practices such as overvaluing loans. This practice is detrimental since sound financial practices dictate that a firm should reduce the value of loans that are likely to be defaulted. In addition to this, the firm is required to alert the market of this high risk. Withholding of information from relevant parties results in damages and was one of the courses of the 2008 financial meltdown.

Markets are competitive to such a level that gambling of some form must occur in the free market. Banks are inclined to lend so as to receive interest on their loans. Bank failures are traceable to a decline in the value of bank loans which comes about from diminished financial capabilities by the borrowers. However, some form of prudential regulation must be employed by the banks when vetting their potential debtors. A common consensus among economists is that banks should have sufficient capital at hand. Requiring sufficient capital is a sound practice since it is a reasonable assumption that al businesses should make profits that are within the limits of the amount of investment made by the business owners. The logic behind capital requirements is that if a firm invests in its own capital, then the capital acts as a bond and the bank stands to bear the brunt from losses that may arise from risky assets.

Cooley restates that the policies in place today reinforce the belief that some firms are too big to fail which has led to guarantee programs funded by the Federal Reserve to ensure the success of such firms. As a result of the guarantee of bailout, the practice of under pricing insurance has taken place. This habit has resulted in Insurance firms being unprepared for a financial crisis. The deposit insurance regime can therefore be viewed as a destabilizing element in the banking system.

The article concludes by reiterating that risks by firms are continually being shifted to the taxpayer instead of having the firms which engage in the risk bear the cost of their mistakes. This practice is slowly moving the country towards even bigger crisis in future. For example, it is a plausible assumption that the generous government subsidization of subprime mortgage risk taking as well as the sponsored deposit insurance contributed to the recent financial crisis. A more prudent approach would be for the government to create an environment where firms are forced to consider the risks before making investments. Such an environment can only be created if the firms know that they will have to pay for the losses that may result from high risk investments made.

Banking crises are important since they affect the entire economy of a nation and have huge consequences for everyone. This paper set out to review the article “Moral Hazard on Steroids” by Cooley Thomas. Through this paper, it has been demonstrated that while banks are an absolute necessity for the national and international economy, the bail outs they are guaranteed and given when they fail only leads to the likelihood of more failure in future. This cost of this failure is borne by the taxpayer while the firms continue with their business. Making banks internalize the cost of gambling should be the favored policy by the government.

Cooley, Thomas. Moral Hazard on Steroids . 2009. Web.

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A look at James Baldwin’s enduring influence on art and activism

Jeffrey Brown Jeffrey Brown

Lena I. Jackson Lena I. Jackson

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• Copy URL https://www.pbs.org/newshour/show/a-look-at-james-baldwins-enduring-influence-on-art-and-activism

The legendary writer and activist James Baldwin would have turned 100 this month. He is best known for his novels and essays and as a moral voice addressing race, sexuality and the very fabric of American democracy. Jeffrey Brown looks at Baldwin's enduring legacy for our series, Art in Action, exploring the intersection of art and democracy and for our arts and culture coverage, CANVAS.

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Amna Nawaz:

This month, the legendary writer and activist James Baldwin would have turned 100 years old.

Baldwin is best known for his novels and essays and as a moral voice addressing race, sexuality and the very fabric of American democracy. Nearly 40 years after his death, his words are more relevant than ever.

Jeffrey Brown looks at his enduring legacy for our series Art in Action, exploring the intersection of art and democracy, and our ongoing Canvas coverage.

James Baldwin, Writer:

The inequality suffered by the American Negro population of the United States has hindered the American dream.

Jeffrey Brown:

James Baldwin, novelist, essayist, civil rights activist, public intellectual, here debating William F. Buckley Jr. at the University of Cambridge in 1965.

Eddie Glaude Jr., Princeton University:

He's engaged in this ongoing work of self-creation, in this sustained reflection on the power of the American idea. He's bringing the full weight of his intellect to bear on this project.

Eddie Glaude Jr. is a professor of African American studies at Princeton University and author of the 2020 book "Begin Again: James Baldwin's America and Its Urgent Lessons for Our Own."

Eddie Glaude Jr.:

I think, if you read Baldwin closely, there is this underlying idea that we have yet to discover who we are, right, because the ghosts of the past in so many ways, not only blind us, but they have us by the throat.

James Arthur Baldwin was born in Harlem in 1924 and raised there by his mother and stepfather, a Baptist preacher. The oldest of nine children, he excelled in school and served as a junior minister.

A man on the margins, Black and queer, he spent years of his life abroad, much of it in France, beginning at age 24. He wrote novels, including "Go Tell It on the Mountain," an autobiographical book about growing up in Harlem, and "Giovanni's Room" about a tormented love affair between two men living in Paris, and powerful essays exploring race and American identity, including "Notes of a Native Son" and "The Fire Next Time."

He's one of the greatest essayists we have ever produced, the world has ever produced I think, and his subject is us. But his vantage point, it's not that of a victim. His vantage point is from those who've had to bear the burden of America's refusal to look itself squarely in the face.

He was also a playwright and poet, an activist who marched and spoke out for civil rights, including on television, here on "The Dick Cavett Show" in 1969.

James Baldwin:

And the word Negro in this country really is designed, finally, to disguise the fact that one is talking about another man, a man like you, who wants what you want.

And insofar as the American public wants to think there has been progress, they overlook one very simple thing. I don't want to be given anything by you. I just want you to leave me alone, so I can do it myself.

Baldwin died in 1987, but he's remained a powerful cultural presence, one that's only grown in the past decade.

There are days — this is one of them — when you wonder what your role is in this country and what your future is in it.

In the 2016 documentary "I Am Not Your Negro," director Raoul Peck drew from Baldwin's own words. As he told me then:

Raoul Peck, Director:

He was already a classic, and he wrote those things 40, 50 years ago. And watching the film, you think that he would have — he wrote that in the morning, the morning before watching the film, because those words are so accurate, they are so prescient and so impactful, that you can't do it better.

In 2018, Baldwin's 1974 novel "If Beale Street Could Talk" was adapted by Oscar-winning director Barry Jenkins.

Barry Jenkins, Director:

Whether I had won eight Oscars or no Oscars, it's James damn Baldwin, you know? It's James Baldwin. That's pressure enough, in and of itself, because I wanted to honor his legacy in the way that I thought it should be honored.

And now a celebration of the centennial of his birth, including an exhibition at the National Portrait Gallery called This Morning, This Evening, So Soon: James Baldwin and the Voices of Queer Resistance, which takes its name from a short story he published in 1960, another at the Schomburg Center for Research in Black Culture titled Jimmy: Gods Black Revolutionary Mouth, presenting Baldwin's archive of personal papers.

There's a new album by singer-songwriter and bassist Meshell Ndegeocello called No More Water: The Gospel of James Baldwin, and reissues of seminal works with new introductions and artwork.

Cree Myles, Host, "The Baldwin 100": What is the best lesson you have learned being in the spiritual community that you are in with James Baldwin?

Along with a podcast, "The Baldwin 100," in which host Cree Myles talks with contemporary writers and thinkers.

What is his relevance today, especially when you think about younger people, younger readers, younger citizens?

Cree Myles:

Despite the time that has passed, his amount of truth is still relatively radical. When I think about his novels and "Giovanni's Room," and we're thinking about the ways that he grappled with, like, sexuality, those are things were still coming to terms with.

Acclaimed Irish novelist Colm Toibin contributed the new book "On James Baldwin."

Colm Toibin, Author, "On James Baldwin": I'm interested in him as, I suppose, someone who really found ways of dealing with individuality versus community, with being an artist in a difficult time.

But more than anything, more than anything, he wrote well.

Toibin saw connections to his own upbringing and told us how Baldwin has influenced him as writer and man.

Colm Toibin:

It's a question of engaging with this great intelligence and with the sensuous intelligence, with someone sort of thinking brilliantly and glittering sort of way.

But it is also, of course, developing strategies, which he did in relation to his family, in relation to Harlem, in relation to Black America, in relation to exile, in relation to attempting to being an artist in a time of flux, and also in a way of being a gay artist, a homosexual artist coming out of a world which is very conservative and very religious, and attempting also to build strategies around that that give you energy, rather than ones that take you down.

One deeply resonant thread through all the commemorations, Baldwin's focus on the fragility of democracy itself.

Baldwin's exposing the lie that is the source of the suffering, that defines this fragile project, it seems to me. He's committed to democracy. He's committed to America. After all, we are deeply American. But, by virtue of that commitment, he has to relentlessly critique it.

It comes as a great shock to discover the country, which is your birthplace and to which you owe your life and your identity, has not, in its whole system of reality, evolved any place for you.

A commitment, as Glaude puts it, to the complex experiment called America.

For the "PBS News Hour," I'm Jeffrey Brown.

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In his more than 30-year career with the News Hour, Brown has served as co-anchor, studio moderator, and field reporter on a wide range of national and international issues, with work taking him around the country and to many parts of the globe. As arts correspondent he has profiled many of the world's leading writers, musicians, actors and other artists. Among his signature works at the News Hour: a multi-year series, “Culture at Risk,” about threatened cultural heritage in the United States and abroad; the creation of the NewsHour’s online “Art Beat”; and hosting the monthly book club, “Now Read This,” a collaboration with The New York Times.

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Thai Court Ejects Prime Minister, as Old Guard Reasserts Power

Prime Minister Srettha Thavisin was considered a figurehead leader in a behind-the-scenes power struggle. He was ousted on ethics charges.

By Sui-Lee Wee

Reporting from Bangkok

Thailand’s Constitutional Court ousted Prime Minister Srettha Thavisin from office on Wednesday, throwing the country into fresh political turmoil just days after the court dissolved the country’s main opposition party.

In a 5-4 verdict, the court ruled that Mr. Srettha, who took office almost a year ago, violated ethics standards after he appointed to his cabinet a member previously convicted of attempted bribery.

Mr. Srettha was seen as a figurehead, closely allied with Thaksin Shinawatra, a populist former prime minister who has long sought to influence the country’s politics even after he was ousted and exiled in a 2006 coup.

The court’s decision is likely to intensify the disillusionment of many Thais, who see the case as the latest proof of intervention by an unelected establishment that is quashing the people’s will. Last week, the same court ordered the disbandment of the Move Forward Party , a progressive party that won last year’s election but was blocked from forming a government.

The constant upheaval in politics has diminished the government’s ability to address pressing issues such as reviving the country’s ailing, tourism-dependent economy.

But this dismissal is unlikely to galvanize angry protests. Mr. Srettha, a mild-mannered 62-year-old billionaire tycoon, was not a popular leader. He was installed only because a military-backed Senate prevented Pita Limjaroenrat , Move Forward’s former leader, from becoming premier. During his short term in office, Mr. Srettha was criticized for traveling abroad frequently with few results to show for it. He has said those trips were necessary to stimulate tourism and foreign investment.

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