Tags: volcker | banks | risk

Volcker: Banks Even Riskier Now

By Dan Weil   |   Monday, 19 Oct 2009 10:11 AM

Many experts criticized the bank bailouts engineered by the Bush and Obama administrations for ignoring the risk of “moral hazard.”

Former Federal Reserve Chairman Paul Volcker says that risk hasn’t gone away.

The idea of moral hazard is that, after banks are bailed out executives at those institutions won’t feel any need to rein in their risk-taking because they assume the government will step in with aid if they fail.

“What are the implications for all this government support that was given to the market in terms of crisis, in terms of expectations as to what the government will do in some future crisis?” Volcker said in a recent speech.

“They rescued us once, won’t they rescue us again? The great problem of so-called moral hazard.”

Volcker says one salient characteristic of the government’s bank bailout was that no creditor lost any money in those institutions except Lehman Brothers.

“The lesson drawn was don’t let any of them fail,” he notes.

“How do you deal with that problem? I don’t think anybody has a really perfect answer, because you do have big financial institutions that are highly interconnected.”

The Obama administration’s bank reform plans don’t solve the issue, according to Gary Burtless of the Brookings Institution.

He wrote in National Journal: “The problem of moral hazard will remain, because bondholders and bank counterparties will continue to expect the government to bail out big institutions in the event of insolvency.”

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Many experts criticized the bank bailouts engineered by the Bush and Obama administrations for ignoring the risk of “moral hazard.”Former Federal Reserve Chairman Paul Volcker says that risk hasn’t gone away.The idea of moral hazard is that, after banks are bailed out...
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