Mitigate moral hazards: Be it finance or politics1 min read . Updated: 14 Mar 2023, 11:58 PM IST
New risks have surfaced globally within a span of days, thanks to an enlarged US backstop for bond-wracked banks and a pointed Aukus role in the Indo-Pacific. India isn’t much safer
The space to do as we please without having to bear adverse consequences is a luxury most of us gave up long ago. If someone else promises to pay for our errors, however, human nature exposes us to the moral hazard of reckless behaviour. This needs to be held in check, globally, but has gone up in the fields of finance, geopolitics and Indian public affairs. First, take finance. The response of US authorities to last week’s failure of Silicon Valley Bank (SVB) was to assure its depositors they’d get all their money back, while its shareholders would be wiped out and bond-holders squeezed hard. This way, SVB doesn’t get a “too big to fail" bailout; its owners will suffer for the folly of billions stuffed into bonds whose value got scrunched by last year’s reversal of the US Fed’s cheap-money policy as inflation broke loose. Yet, other banks might have to chip in for a depositor rescue; and anything that spreads losses around (but not profits) will likely tempt riskier bets as we go along. A bigger boost for moral hazard took the shape of a central-bank window opened to forestall further insolvencies of the SVB kind. For a tiny penalty over the usual rate, cash-strapped US banks can access Fed funds via loans against the same type of bonds—but at par instead of market value. It’ll stop bank runs, but this backstop amounts to Fed largesse. It also lets the pandemic’s near-zero rates masquerade as normal and weakens the incentive for banks to hedge their rate risks.