Moral Hazard Dilemma

Example Problem

Example: Statement: A systemically important private retirement fund has made excessively risky investments and is now facing imminent collapse. While the failure would cause immediate financial ruin for millions of retirees, a government bailout would incentivize other funds to take similar reckless risks in the future (Moral Hazard). Course of Action: I. Government should provide a time-bound, conditional, liquidity injection to stabilize the fund and prevent a systemic panic. II. The current executive and investment teams responsible for the risky decisions should be immediately dismissed and face a full regulatory investigation. III. The fund should be allowed to fail completely, forcing the market to bear the cost and reinforcing the principle of risk-taking accountability. IV. Regulatory oversight laws governing retirement fund investment limits should be immediately reviewed and significantly tightened. V. Affected retirees should be fully compensated using taxpayer money without any requirement for management change or reform. Solution: Step 1: Problem = systemic risk vs. moral hazard trade-off Step 2: Action I provides conditional bailout with time-bound support → Follows Step 3: Action II imposes accountability through management dismissal → Follows Step 4: Action III ignores systemic risk and would harm millions → Does not follow Step 5: Action IV prevents recurrence through regulatory reform → Follows Step 6: Action V provides bailout without accountability, worsening moral hazard → Does not follow Answer: I, II and IV follow