Debt relief without moral hazard.

I put on my thinking caps last week and drafted a paper called ‘Designing a Debt Relief programme with minimal moral hazard to address the Irish household debt overhang‘.

We were every happy with the write up it got in the Sunday Independent via Carol Hunt.

There is far too much talk of ‘moral hazard’ in the public debate to date, instead we should be also considering ‘separating equilibrium’ (which is kind of the opposite of moral hazard – it’s the ‘pain’ that comes with moral hazard ‘gain’).

To do this you have to create a programme which works within some of the parameters of the existing laws (new legislation must still take account of what exists before it), look at the operational aspects of the scheme (how it functions in real life), design a general algorithm of the process and most importantly have an ‘incentive alignment’ which means that neither party voluntarily makes an action to the intentional detriment of the other.

So I failed if you take every metric together, but what does come out of this is that you could have a somewhat prescriptive debt solution that works rapidly, uses established methods and that is fair to both bank and borrower.

The statement that we ‘can’t afford the cost’ is a legitimized fallacy, one that if you repeat it often enough becomes true. Contrary to that is the fact that loans that cannot be repaid will not be repaid – if you accept that then there is a cost, the question is whose lap does it land in? The banks via writedown/writeoff or the taxpayer via additional welfare costs?

An easier way to think about this is as follows: A cost is a cost, and the question is really about who bears it rather than whether it exists or not. This is just another example of the banking system hoping to offset their costs on other parties, it is the ultimate rent-seeking behaviour.

I am hopeful that a few people will read this and critique the heck out of it (please critique here or post a link to where we can find the critique), because this is HOW the subject advances, to date it has all been on subjective stances as to what is ‘right’ or ‘wrong’. On the cost front we used a simple comparative cost rather than a macro-economic one.

If nothing else, this paper will cure insomnia!

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