Summary:
Short PBS documentary about moral hazard, the banking system and the housing crisis. Mother of all moral hazards. Hazard : encouraging too much risk taking because the risk takers think they're protected. Moral: because of the hazard of inducing bad behavior even with the best of intentions. Moral hazard is a common economic problem: e.g. present in safety innovations, personal insurance, deposit insurance, rating agencies and bond insurance. Moral hazard induced bankers to take the risks that led to the crisis bankers to the housing crisis. Job of the Fed is to insure the system, to make sure that no one has to worry about the collapse of the system, which was at risk. Fed's solution to the moral hazard problem is to put government supervision in return for government largesse. (Published: 18/07/08)
Notes:
- government bailing out bad loans and lenders
- rewarding risky behaviour?
- will it create another crisis?
- creates an environment of moral hazard
- "mother of all moral hazards"
- "hazard": encouraging too much risk taking because the risk takers think they're protected
- "moral": because of the hazard of inducing bad behavior even with the best of intentions
- bailing out lavish lenders to save the system may create more lavish lending next time around
- moral hazard: common economic problem
- safety innovations and personal insurance
- e.g. seat belts, airbags, car insurance, flood insurance
- can encourage opposite behaviour
- can even provide incentives to do the bad thing you're protected against
- e.g. fire insurance and arson
- bank insurance, insured deposits
- without deposit insurance, risk of bank runs
- but: if deposits never taken out (insured), banks have more incentive to lend to riskier borrowers than they otherwise would
- more risk in the loans than their otherwise would be
- securitization of loans
- packaging loans up into securities and selling them into the capital markets
- lender made the loan but has none of the risk
- risk passed on to someone else
- rating agencies and bond insurance
- you don't have to figure out how risky a bond is because you've got rating agencies and you've got actual insurance
- investor is covered twice
- will take more risk than he would otherwise
- housing crisis
- moral hazard induced bankers to take the risks that led to the crisis
- no innocence because everybody was getting away with something, on the assumption that they were protected
- home buyers (zero deposits)
- loan originators
- packagers
- rating agencies
- role of the Fed
- job of the Fed is to insure the system, to make sure that no one has to worry about the collapse of the system
- from point of view of Fed, Bear Stearns wasn't bailed out
- stock was trading at >10x buyout price
- many employees have lost their life savings
- many managers have lost their jobs
- Fed's solution to the moral hazard problem
- government supervision in return for government largesse
- so far not very specific
