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My Two Cents

A Second Chance

Chris Farrell Dec 10, 2007

“Moral hazard” is a major economic and financial concern of recent years, especially among conservatives.

Here’s how the Economist dictionary defines moral hazard: “One of two main sorts of MARKET FAILURE often associated with the provision of INSURANCE….. Moral hazard means that people with insurance may take greater risks than they would do without it because they know they are protected, so the insurer may get more claims than it bargained for.”

Now, moral hazard is frequently invoked by conservative commentators to complain about any proposal for universal health insurance. The same goes for attempts by the Federal Reserve Board to use monetary policy to offset recessionary forces (the Fed ends up encouarging greater risk taking as people decide the Fed will bail them out when times turn bad, or so we are told). And now I’m reading plenty of commentary complaining about moral hazard with the federal government’s negotiated subprime mortgage bailout. All it will do, we’re told, is encourage future reckless behavior when it comes to real estate.

The commentary has a tone reminiscent of U.S. Treasury Secretary Andrew Mellon’s infamous declaration during the Great Depression: “Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate.” Of course, we now know that his proposal was exactly wrong. Worse yet, Mellon went on to proclaim that panics (read recession) weren’t all that bad: “It will purge the rottenness out of the system. High costs of living and high living will come down. People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up the wrecks from less competent people”…

Right. Yes, moral hazard can be an issue, but it seems to be greatly exaggerated at the moment, especially when it comes to Fed actions and the mortgage bailout. Look, we are losing appreciation of a unique and powerful aspect of our capitalist culture: The second or third chance. Giving workers a second or even third chance unleashes energy into the economy. The notion of another chance lies at the core of our creative and entrepreneurial economy. It’s part and parcel of capitalist optimism.

A very sour mood is settling over public policy discussions today–a mean-spirited, zero sum game approach. I don’t buy it. Capitalism isn’t a zero-sum game. Moral hazard isn’t a big worry. Let’s not lose sight that a second and third chance, maybe even more–matters to individual risk-taking and wealth creation.

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