Moral Hazard Versus Real Hazard

• Author: Tito Cordella
• Pages: 1-6

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Does IMF lending make borrowers and lenders much more imprudent? In other words, are the moral hazard costs associated with IMF interventions so large that "the IMF might consider changing its name to IMH-the Institute for Moral Hazard" (Barro, 1998)? Or are they so small that "Argentina's difficulty in obtaining IMF lending has to do with an overstating of the problem of moral hazard" (Griffith-Jones, 2003)?

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Ultimately these are empirical questions. Although no study has provided a complete cost-benefit analysis of rescue packages along these lines, a number of IMF researchers have gathered substantial empirical evidence on these questions. Several studies have looked at the real cost associated with financial crises, others have provided estimates of the likely moral hazard implications of rescue packages.

The cost of real hazard, that is, of sharp declines in member countries' economic performance, has been documented by several authors. With respect to the social costs, Baldacci, De Mello, and Inchauste (2002) show that financial crises are associated with an increase in poverty and, in some cases, income inequality. Their view is that such negative effects call for the provision of targeted safety nets. Corbacho, Garcia-Escribano, and Inchauste (2003) look at the effects of the Argentine macroeconomic crisis using urban household surveys. This allows them to identify the most vulnerable households, to investigate whether employment in the public sector and government spending served to decrease vulnerability, and to shed light on the mechanisms used by households to smooth the effects of the crisis.

Other studies focus on the output costs of financial crises. Gupta, Mishra, and Sahay (2003) use a broad sample of 195 currency crises in 91 countries from 1970 to 1998 to examine the output response to the crises. They show that, while the majority of crises have been contractionary, more than 40 percent of them turned out to be expansionary. Moreover, output contraction was greater in large and advanced economies than it was in small and developing countries. This finding contrasts with Disyatat's (2001) view that developing countries are more exposed to output collapses because of the vulnerability of their banking sector. Finally, Cerra and Saxena (2003) study output recovery in the aftermath of the Asian crisis and decompose the permanent and transitory components of recessions. Their main finding is...