The Politics of Moral Hazard
BRUSSELS – It is an old and never-ending contest. On one side are the moral-hazard scolds, claiming that one of the major responsibilities confronting policymakers is to establish incentives that demonstrate that imprudent behavior does not pay. On the other side are the partisans of financial stability, for whom confidence in the financial system is too precious to be endangered, even with the best possible intentions.
Cyprus is the latest battleground between the two camps. On March 25, after the decision had been taken to wind up the country’s second-largest bank, and to impose large losses on uninsured depositors in the process, Eurogroup President Jeroen Dijsselbloem, the Dutch finance minister, declared that a healthy financial sector requires that “where you take on the risks, you must deal with them.” The aim, he added, should be to create an environment in which Europe’s finance ministers “never need to consider a direct recapitalization” of a bank by the European Stability Mechanism. He was apparently reading from a textbook on moral hazard.
Immediately after this declaration, however, prices of European bank stocks plunged, and Dijsselbloem was accused by many (including some of his colleagues) of having poured oil on a burning fire. Within hours, he issued a statement indicating that “Cyprus is a specific case with exceptional challenges,” and that “no templates are used” in the approach to the European crisis.
We hope you're enjoying Project Syndicate.
To continue reading, subscribe now.
Get unlimited access to PS premium content, including in-depth commentaries, book reviews, exclusive interviews, On Point, the Big Picture, the PS Archive, and our annual year-ahead magazine.
Already have an account or want to create one? Log in