Self-Interest & A Banking Moral Hazard

Self-Interest & A Banking Moral Hazard

I have not really read into or studied the financial crisis of 2008, but I remember how angry and furious so many people were at the time. There was an incredible amount of anger at big banks, especially when executives at big banks began to receive massive bonuses while many people in the country lost their homes and had trouble rebounding from the worst parts of the recession. The anger at banks spilled into the Occupy Wall Street movement, which is still a protest that I only have a hazy understanding of.
While I don’t understand the financial crisis that well, I do believe that I better understand self-interest, thanks to my own personal experience and constantly thinking about Robin Hanson and Kevin Simler’s book The Elephant in the Brain. The argument from Hanson and Simler is that most of us don’t actually have really strong beliefs about most aspects of the world. For most topics, the beliefs we have are usually subservient to our own self-interest, to the things we want that would give us more money, more prestige, and more social status. When you apply this filter retroactively to the financial crisis of 2008, some of the arguments shift, and I feel that I am able to better understand some of what took place in terms of rhetoric coming out of the crisis.
In Risk Savvy, published in 2014, Gerd Gigerenzer wrote about the big banks. He wrote about the way that bankers argued for limited regulation and intervention from states, suggesting that a fee market was necessary for a successful banking sector that could fund innovation and fuel the economy. However, banks realized that in the event of a major banking crisis, all banks would be in trouble, and dramatic government action would be needed to save the biggest banks and prevent a catastrophic collapse. “Profits are pocketed by executives, and losses are compensated by taxpayers. That is not exactly a free market – it’s a moral hazard,” writes Gigerenzer.
Banks, like the individuals who work for and comprise them, are self-interested. They don’t want to be regulated and have too many authorities limiting their business enterprises. At the same time, they don’t want to be held responsible for their actions. Banks took on increasingly risky and unsound financial loans, recognizing that if everyone was engaged in the same harmful lending practice, that it wouldn’t just be a single bank that went bust, but all of them. They argued for a free market before the crash, because a free market with limited intervention was in their self-interest, not because they had high minded ideological beliefs. After the crash, when all banks risked failure, the largest banks pleaded for bail outs, arguing that they were necessary to prevent further economic disaster. Counter to their free-market arguments of before, the banks favored bail-outs that were clearly in their self-interest during the crisis. Their high minded ideology of a free market was out the window.
Gigerenzer’s quote was meant to focus more on the moral hazard dimension of bailing out banks that take on too many risky loans, but for me, someone who just doesn’t fully understand banking the way I do healthcare or other political science topics, what is more obvious in his quote is the role of self-interest, and how we try to frame our arguments to hide the ways we act on little more than self-interest. A moral hazard, where we benefit by pushing risk onto others is just one example of how individual self-interest can be negative when multiplied across society. Tragedy of the commons, bank runs, and social signaling are all other examples where our self-interest can be problematic when layered up to larger societal levels.