Moral Hazard and Financial Collapses

Government bailouts are supposed to be last-ditch resorts. Instead, they’re built into financial risk assessment as guaranteeing no negative returns for major players. Corporations bank on them – pun only slightly intended – to be there to prevent a sticky end for them at the expense of the taxpayers and all those businesses that weren’t too big to fail.

Worse, when the government tried to act like it wasn’t going to bail out the guys that gambled with everyone’s retirement money and let Lehman Brothers fail, the consequences were so horrendous that the government couldn’t show that tough love ever again. It had to keep the oligarchy of major financial institutions going, even if it meant abandoning the small businesses of America that were struggling just as much.

Moral of the story? First off, if you want to succeed, your corporation needs to be so huge that it can’t be ignored. Second, you have to gamble with other people’s money with guarantees from those people – or their government – to make good on your losses. Third, you need better political connections than Lehman had, so the government won’t let you fail… and so you can also get a preferred bid on the contract to buy up the remains of your competitor. Moral hazard all the way.

The market doesn’t always know best, particularly when it’s able to buy or otherwise demand government influence. Had there been no guarantees, those financial institutions would have had to been more careful, right?

Nope. There were no such guarantees in 1907, and the same thing that happened in 2008 happened then. That’s when we learned there was such a thing as “too big to fail.” The government then worked to keep financial institutions from getting that big again.

In the last 25 years, those century-old regulations were stripped away, and the financial sector became more and more reckless as it became bigger and less failworthy. The government promises to keep disaster from happening actually made the banks act as if disaster could never happen, and that’s the very definition of moral hazard.

Right now, Obama’s solution to the financial sector problems does not deal with the moral hazard that currently exists. Nothing’s on the table to get the industry back where it needs to be to keep another major collapse from happening.

13 thoughts on “Moral Hazard and Financial Collapses

  1. Raphael Yohannes

    What I don’t get is why the government would make/cut laws that would result in their own country having to pay for their actions and at the same time cause America to lose it’s name as being the “head hancho”

  2. Ali Aenehzodaee

    I don’t mean to sound like a leftist commie, but how much of this could be avoided if say, banking, was centralized and state run? It would certainly stop some of these head ceo’s from skimming billions off the top of tax payer money. Just a bit of responsibility can go a long way. Chances are American economy is on a non-sustainable path because of these sorts of big money attitudes (Madoff, for example).

    Is it fair to say that a moral hazard is driven by a lack of corporal ethics?

  3. deanwebb Post author

    Raphael: There are people in government that get re-elected based upon how they deliver votes for the Big Money. If they get re-elected, they benefit, even if the nation gets messed up.

    Ali: If the state ran a bank, our corruption would be more like China’s. Their banks just make fake loans and hope they never have to overhaul the books. Instead of CEO skims, it would be government official skims.

  4. Ali Aenehzodaee

    So there will always be someone to take advantage of another..

  5. Chanel Wan

    No matter if we were to change the way our money is controlled either by the companies or by the government, we will all be taken advantaged of. That is how the system is created to work because the person who thought of this idea wanted to benefit from the ordeal. The system is a weird type of win lose situation like if it does work as a whole then someone makes a whole lot of money, and if it doesn’t someone still gets paid no matter what.

  6. Hugo Espiritu

    There needs to be change of attitude when it comes to what is ethically wrong or right. Everyone in finance is in there to make money and lots of it; so much so that those who don’t have a working moral compass screw anyone to make more money. Maybe a stronger emphasis on ethical conduct should be introduced in business schools so that those greedy pigs think twice about what they do and how it affects others. Those who violate the law in business should also be objurgated more harshly. Most who commit
    crimes that ruin the lives of many get a little fine (compared to their stash) and maybe some jail time. Most of the time it’s less than a year if any. Being stricter on punishment would make people less likely to do something they are not suppposed to do.

  7. Emily S.

    I agree, I think we need to work from the ground up. Before we try to create new laws, we need to make sure that the poeple running things have morals and can handle responsibility. But I guess there is no way to do that.

  8. Hugo D. Espiritu

    Sure there is. Create a new Major in Ethical Conduct that every business graduate has to get a PhD in if they want to do anything business related.Lol.

  9. David Liou

    People are going to find ways around the new laws as they did the old ones.

  10. chanel wan

    We are the country we are today due to all the past decades and presidents and deals that they made with the senate and house that create the laws. It would take a century or more for it to work.

  11. deanwebb Post author

    People will try to find ways around the laws, yes. That’s why it’s up to us to enforce them and not let money tempt us. Because we’ve given ourselves over so much to money, it has led to the current situation.

  12. chanel wan

    So basically we can’t allow blood money to run our country? We as a nation should have a greater hold on our money and do beneficial type things with it instead of harmful greedy deeds. We need to find effective and productive ways to spend our money instead of funding operations to gain political power.

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