Wednesday, February 29, 2012

The Pointless Claim of Moral Hazard



Last Saturday the NYTimes described moral hazard as the "flip side" of self-reliance.  This is not entirely the case.  The flip side of self-reliance is the democratic value of promoting the general welfare.  This two sided coin is the classic American identity crisis because as we pursue one we impinge on the other.

The potential for moral hazard exists whenever there is a guarantee of any kind.  It is a nuanced concept because while insurance is intended to protect against risk and, in some cases, encourage acceptance of risk (eg. insurance against mortgage loans given to those that are likely to default) it may also encourage the policyholder to seek out realization of the risk.  Hence, the policyholder’s moral conscious is altered-- the line between good and bad behavior becomes a bit fuzzy.  It is a concern for insurers because, in theory, if the moral hazard is not controlled it can change the probability of the insurer experiencing loss and therefore, affect the probability of insolvency.  And while some believe that moral hazard is rampant in society (often regarded as insurance ‘fraud’) others contend that in the grand scheme of things, it really isn’t all that bad.  These differing views was well demonstrated in the article.

The NYTimes article, admirably, cited Tom Baker’s classic work, On the Genealogy of Moral Hazard but, entirely missed his larger argument.  As a democratic society that seeks to protect its members from some of the “hazards and vicissitudes of life” (said FDR) the potential for moral hazard is par for the course.   Therefore evoking the argument is pointless because economic theory cannot dictate good policy from bad.  Stirring up the moral hazard argument, is therefore, self-serving as a means to argue for “the interests of the economically powerful.”  Baker writes,
"... the economics of moral hazard systematically-and wrongly-undervalue efforts to protect the injured, the sick, and the poor, and absolve the more fortunate of their responsibility for that situation. The real lesson of moral hazard should be that the world is a relational web that cannot be reduced to truism.”
And so, for a government working to promote the public welfare the larger value goal may justify accepting the moral hazard.

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