Jeff Neal for C.U.R.E. - Certain Unalienable Rights Endowment

Bailouts – Debt vs Equity

In Financial, Opinion on February 1, 2011 at 11:47 pm

This piece from Cafe Hayek (Link Here) by one of our best economists about a distinction that we don’t hear much about.  Generally speaking, government bailouts saved lenders and management, not shareholders.

Moral Hazard is not some academic theory.  It is exactly why the financial markets unwound in 2008.  The consequences of risk were distorted and difficult to trace – often the owners of the upside potential of investments had no downside, having passed that risk on to unsuspecting bondholders who thought the rating agencies, who had nothing at stake, had correctly assessed the risks of securities that were rated as AAA (or some other ‘investment grade’ rating).

Neither greed nor deregulation caused the financial markets to seize-up in 2008.  A disconnect between risk evaluators and risk takers caused much of the problem.  Risk takers naively let others with nothing at risk evaluate the risk takers’ exposure.  That never has worked.


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