Role Of Moral Hazard Research Articles

Deposit Insurance and Banking Risk in India: Empirical Evidence on the Role of Moral Hazard

Deposit Insurance and Banking Risk in India: Empirical Evidence on the Role of Moral Hazard

Hedge Fund Leverage: The Role of Moral Hazard and Liquidity Insurance

Hedge Fund Leverage: The Role of Moral Hazard and Liquidity Insurance

The Incentive Model in Supply Chain with Trade Credit and Default Risk

Trade credit is widely used for its advantages. However, trade credit also brings default risk to the manufacturer due to the uncertain demand. And moral hazard may aggravate the default risk. The purpose of this paper is to investigate the role of moral hazard in trade credit and explore incentive contract under uncertain demand and asymmetric information. We consider a two‐echelon supply chain consisting of a risk‐neutral retailer ordering a single product from a risk‐neutral manufacturer. Market demand is stochastic and is influenced by retailer’s sales effort which is his private information. Incentive theory is used to develop the principal‐agent model and get the incentive contract from the manufacturer’s perspective. Results show that the retailer will reduce his effort level to get more profit and the manufacturer’s profit will be reduced, in the case of asymmetric information. Facing this result, the manufacturer will reduce the order quantity in incentive contract to lessen his losses. Numerical examples are provided to illustrate all these theoretical results and to draw managerial insights.

The Role of Moral Hazard in the Housing Boom and Bust

The recession of 2007 to 2009 provided a textbook illustration of the ways in which government policies intended to expand credit and capital investment can engender perverse incentives and foster systematic malinvestment. This paper will examine how politically motivated efforts by government sponsored enterprises to increase homeownership combined with loose monetary policy to generate a rash of moral hazard relationships between borrowers and lenders, lenders and GSE’s, GSE’s and the American taxpayer. The first three sections of this paper will explore the extent to which government policy was responsible for cultivating moral hazard problems in those relationships. The fourth and final section will explore the extent to which the structure of those relationships has been either mitigated or perpetuated in the decade since the bust.

Volatile capital flows and financial integration: The role of moral hazard

We study a model in which income and capital flows between countries are jointly determined in a world economy with integrated financial markets. In a setting that combines risky entrepreneurial activity with moral hazard, we find that a shift from autarky to financial integration leads to boom-bust cycles in capital flows, output and consumption. Moral hazard causes cycles because financial intermediaries incentivize effort by insisting entrepreneurs take an equity share in their own projects. The size of this stake rises with wealth, discouraging entrepreneurship and inhibiting capital formation. The reverse is true when wealth falls, generating cycles.

Banking Instability and Deposit Insurance: The Role of Moral Hazard

The primary objective of this paper is to investigate the impact of moral hazard on the effectiveness of deposit insurance in achieving banking stability. If moral hazard explains banking instability arising from the adoption of deposit insurance, then deposit insurance will be associated with bank insolvency more than with bank runs. To test the hypothesis, we develop a new empirical framework distinguishing between banking instability initiated by panic withdrawals of deposits, and banking instability initiated by the insolvency problem of banks. Using a dataset covering 118 countries over the period 1980–2004, we find that deposit insurance per se has no significant effect either on bank insolvency or on bank runs. However, interacting deposit insurance with credit to the private sector, we observe a positive and significant effect on bank insolvency and bank runs, suggesting that moral hazard outweighs the positive effect of deposit insurance on banking stability.

Delayed Payments in Supply Chains: The Role of Moral Hazard vs. Bankruptcy

Performance-based contracting is gaining widespread acceptance in supply chains where moral hazard might prevent either or both supply chain entities from exerting the first-best effort that improves supply chain outcomes. We analyze the use of delayed payments as a performance-based contract when supply chain payoffs are lead time dependent. The buyer's margin depends on lead time which is governed by costly supplier effort. For a cash-constrained supplier, the delayed payment offered by the buyer (principal) raises the possibility of bankruptcy and incentivizes the supplier (agent) to exert effort. We study the optimal balance between moral hazard and bankruptcy risk in the context of a delayed payment contract whose objective is to reduce the lead time from supplier to buyer. Modeling the buyer--supplier interaction as an infinite--horizon principal--agent game, we find that suppliers with high cost of effort are able to use the threat of bankruptcy to extract better payment terms from the buyer. Further, these suppliers also exert less effort than what would be optimal for the supply chain as a whole. We show that a payment structure that involves a bonus payment for timely delivery combined with a delayed payment coordinates the supply chain. This payment structure effectively implies buyer cost-sharing in the supplier's effort, contingent on adequate supplier performance. Our results provide buyers with a roadmap on when and how to implement delayed payments as a function of different supplier parameters such as the cost of operational effort and the wholesale price.

Employment Fluctuations with Downward Wage Rigidity: The Role of Moral Hazard*

AbstractWe study the cyclical dynamics of job creation and destruction when workers' effort is not perfectly observable. The no‐shirking constraint may amplify fluctuations in hiring by making firms' surplus share procyclical, and may cause a burst of inefficient firing when a downturn begins. But quantitatively, it mainly raises the cost of motivating marginal workers in booms, since firms cannot commit to keep them in recessions, and thereby strongly damps the countercyclical fluctuations in the separation rate. This implies a robust Beveridge curve, but casts doubt on Ramey and Watson's (1997)“contractual fragility” mechanism and worsens Shimer's (2005a)“volatility puzzle”.

Political Capital and Moral Hazard

I investigate the role of moral hazard from government intervention on the risk-taking behavior of U.S. financial institutions prior to the 2008 financial crisis. I use cross-sectional variation in political connections to measure the effect of moral hazard. The central finding is a higher exposure to Level-3 (toxic) assets and lower stock returns during the crisis at firms with politically-connected directors and prior lobbying connections. One extra politically-connected director on a 10-member board corresponds to twenty percentage points in the proportion of firm market value in toxic assets and an extra drop of six percentage points in 2008 stock returns. In order to address endogeneity concerns, I also look at an additional exogenous source of variation in political connections: whether the firm is based in a state represented on the Senate Banking Committee. I find that representation on the committee increases firm risk, even after controlling for firm characteristics through firm fixed effects. The paper focuses attention on the perverse incentives for risk-taking in the financial sector created by government bailouts.

Why are Firms Challenging Conventional Wisdom on Moral Hazard? Revisiting the Fair Wage-Effort Hypothesis

Economic theory regarding moral hazard at work is somewhat at odds with recent business evidence. Whereas firms in economically and technologically stable environments could apparently follow conventional wisdom when trying to reduce moral hazard through tight supervision and incentive packages, the increasingly innovative and competitive environment is pushing firms to follow human resource practices that explicitly and consciously make managers more vulnerable to opportunistic conducts. We explain this paradox through a generalization of Akerlof and Yellen’s fair-wage effort hypothesis. We argue there is a tradeoff between the effort that firms can capture from their workers (controllable effort) and the level of discretionary effort that employees can offer, upon which the particular excellence and innovative performance of the firm relies. We test our proposition on a wide dataset composed of 2,896 workers. After controlling for several firm and industry traits, evidence confirms the potential role of moral hazard as an opportunity for excellence at work.

Employment Fluctuations with Downward Wage Rigidity: The Role of Moral Hazard

This paper considers a dynamic matching model with imperfectly observable worker effort. In equilibrium, the wage distribution is truncated from below by a no-shirking condition. This downward wage rigidity induces the same type of inefficient churning and contractual fragility as in Ramey and Watson (1997). Nonetheless, the surprising lesson of our analysis is that workers' shirking motive reduces the cyclical fluctuations in job destruction, because firms are forced to terminate some marginal jobs in booms which they cannot commit to maintain in recessions. This time-inconsistency problem casts doubt upon the importance of inefficient churning as an explanation of observed employment fluctuations. On the other hand, the no-shirking condition implies that firms' share of surplus is procyclical, which can amplify fluctuations in job creation. Thus, our model is consistent with recent evidence that job creation is more important than job destruction in driving labor market fluctuations. Furthermore, unlike most models with endogenous job destruction, we obtain a robust Beveridge curve.

Employment Fluctuations with Downward Wage Rigidity: The Role of Moral Hazard

This paper considers a dynamic matching model with imperfectly observable worker effort. In equilibrium, the wage distribution is truncated from below by a no-shirking condition. This downward wage rigidity induces the same type of inefficient churning and contractual fragility as in Ramey and Watson (1997). Nonetheless, the surprising lesson of our analysis is that workers' shirking motive reduces the cyclical fluctuations in job destruction, because firms are forced to terminate some marginal jobs in booms which they cannot commit to maintain in recessions. This time-inconsistency problem casts doubt upon the importance of inefficient churning as an explanation of observed employment fluctuations. On the other hand, the no-shirking condition implies that firms' share of surplus is procyclical, which can amplify fluctuations in job creation. Thus, our model is consistent with recent evidence that job creation is more important than job destruction in driving labor market fluctuations. Furthermore, unlike most models with endogenous job destruction, we obtain a robust Beveridge curve.

Identifying the Role of Moral Hazard in International Financial Markets

Identifying the Role of Moral Hazard in International Financial Markets

DEPOSIT INSURANCE AND MORAL HAZARD: EVIDENCE FROM TEXAS BANKING IN THE 1920S

Using recently collected examination data from a sample of Texas state-chartered banks over the period 1919–1926, the role of moral hazard in increasing ex-ante asset risk is explored. Analyzing individual bank-level data, we find that the existence of deposit insurance for state-chartered banks increased their likelihood of failure. Increases in loan concentrations followed declines in capitalization at insured state banks. However, we find no statistically significant relationship between loan concentrations and capitalization at uninsured national banks or at state banks before the introduction of deposit insurance. These results show a moral-hazard effect at work.

Direct Foreign Investment Versus Licensing

This paper examines the choice among alternative modes of direct foreign investment, namely, the wholly owned subsidiary (the S option) and joint venture (the J option), vis‐à‐vis licensing (the L option). The focus is on the role of moral hazard, difference in risk attitude and the prospect of the host country’s policy toward the venture. An apparently surprising result is that riskiness of the project is a factor against the J option. Moreover, in the absence of policy intervention, L is dominated by either S or J, whereas if there is an anticipation of policy intervention (i.e., there is a policy moral hazard) L may emerge as the best option.

Precarious Credit Equilibria: Reflections on the Asian Financial Crisis

This paper examines some of the origins of the recent East Asian financial crisis. It is composed of three parts. The first considers the role of moral hazard in the crisis, specifically the influence of implicit and explicit government guarantees which may have contributed to excess borrowing in East Asia, similar to what occurred in Latin America during the 1980s. We then consider the role played by weaknesses in prudential regulation and supervision of both banks and non-bank financial intermediaries. Insufficient official oversight and poor corporate governance arguably were at the root of the limited financial transparency which prevented the correct assessment of risks by market participants. The combination of these two factors can be argued to have shifted credit markets from an equilibrium with excess borrowing to one with excessive credit rationing, resulting in a severe liquidity crisis. Comparisons are made with the micro-financial vulnerabilities which eventually led to earlier financial crises in Latin America and the Nordic countries.

Moral Hazard and Merit Rating over Time: An Analysis of Optimal Intertemporal Wage Structures

A fundamental problem that has been the focus of much work in agency theory has been the design of contracts to provide insurance to risk-averse agents and to elicit appropriate levels of effort.' In the context of insurance, the problem is viewed as one of moral hazard whereby the insured agent will reduce the level of his precautions to prevent an accident if he is insured against the adverse outcome. In the labor market context, the problem is one of providing effective work incentives while at the same time promoting the risk-sharing element of contracts. The overall structure of the analyses is quite similar whether or not the focus is on the insurance market, the labor market, or principal-agent problems in general. For concreteness, this paper addresses the labor market incentives problem. The labor market problem is complicated by the firm's inability to observe the worker's ability and effort and also by stochastic elements that impede a firm's attempts to make more indirect inferences using output to assess the worker's productivity-related efforts. This combination of uncertainty and the need to create incentives takes on added importance in the case of workers who are risk-averse. The presence of risk aversion often mitigates the emphasis the firm can place on incentive creation, as there is a desire on the part of workers to have stable income streams. Complete equalization of one's income level across states to promote insurance will, however, remove the differential rewards needed to provide an incentive for individuals to expend effort. This inevitable tradeoff between the work incentive and insurance function of contracts has been studied in detail for single-period contracts. The focus of my analysis here will be on how these influences affect the multi-peiiod wage structure. Although there has been research on the multi-period incentives problem2 and on the role of moral hazard in multiperiod contexts,3 there is no literature on the optimal design of a merit rating system over