Moral Hazard and the Mounting of a Crisis: A U.S. Narrative

From a historical perspective, as moral hazard was mounting, the Fed deployed a new doctrine, de-regulating to surmount the so-called challenges of globalization, while financial innovation was on the rise. This paper focuses on another aspect of the crisis: moral hazard. If a firm or even a system is said to be too big or interconnected to be allowed to fail, then surely there is something that could and should be learned. In Industrial Organization and more particularly in contract theory, these dynamics are captured by the concept of moral hazard. Although moral hazard may not be the sole cause of the rise of systemic risk within what makes the financial and banking industries, it should be evident that it contributed to the level of systemic risk.