Moral Hazard

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Publicly the definition of Moral hazard occurs when an entity has an incentive to increase its exposure to risk because it does not bear the full costs of that risk. For example, when a corporation is insured, it may take on higher risk knowing that its insurance will pay the associated costs. A moral hazard may occur where the actions of the risk-taking party change to the detriment of the cost-bearing party after a financial transaction has taken place.

In reality, moral hazard is a consequence of over-exposure to risk on the part of an institution or corporation (e.g. a bank lending too much money to too many people for mortgages on over-valued houses). The risk is superficially the likelihood of mortgage repayment i.e. will the individual cover his house repayments across the term of the home loan.

Fundamentally, however, what's at risk is the likelihood of the homeowner continuing to accept the burden of personal toil - to repay the loan plus interest - as a fair and equitable relationship between the institution and the citizen. For as long as individuals accept the burden of toil, they work hard and make their payments, allowing the institution to profit from their labour; and on that basis leverage further risk. These profits are the foundation of successive layers of loans and investment guarantees. If the individual rejects this arrangement and fails to give up his labour because the deal is a bad one or because there is no fear of dire consequences, the lender faces "moral hazard" i.e. widespread defaulting, bringing down not only the mortgage lender but everything leveraged against the lender's profit from citizen toil.


In the case of the Financial Crisis 2008, securitizations built on leveraging home loan profits (citizen labour, mortgage repayment deals) collapsed. Self-regulation failed. Lending ignored moral hazard, for themselves. Most importantly, however, the central bank 'bailout' chose not to penalize the big banks for letting themselves fall foul of moral hazard (i.e. that they wouldn't get bailed out, that they weren't too big to fail). Instead it was the poor citizen, homes repossessed, punished for the failure to keep up repayments. The central bank could have bailed out the citizens too but this is where real moral hazard came into play. There was plenty of talk about too big to fail, for the big capital institutions, but none about the individual defaulter being too small to bailout. The citizen had to be taught a lesson, to fear the consequences of default.

The irresponsible banks were bailed out - too big to fail, not penalized for moral hazard - whereas the individual homeowners were foreclosed on, forced into debt, doomed to years of austerity, with no bail out offered. Moral hazard? Government and big capital chose the lesser of two evils: too big to fail meant moral hazard had no meaning for big capital, but they learnt where moral hazard counted was in continuity of citizen subordination to the larger credit/lending paradigm.


Moral hazard was redefined as the risk - to big capital, big banks, big government - of the hard-working citizen refusing to participate in the unequal burden of credit, home loans included. To meet that risk and ensure the individual was forced to acquiesce to the debtor role, citizens had to pay for the bailout and suffer the consequences of foreclosure, debt and austerity.