Financial Pneumonia (Mark Thoma & Scott Sumner)

[bjkeefe]

Originally Posted by rfrobison

This is the essence of the "moral hazard" dilemma that economists refer to. The textbook example is that of fire insurance: If you know your house is fully insured you may be inclined to take risks you might otherwise avoid, making a house fire more likely.

One idea doing the rounds is to make some significant portion of executive pay contingent on, say, five-year performance benchmarks rather than the next quarter or next year. Compensation could come in the form of vested stock, for example, cashable after five years.

I'm not qualified to say whether that would help align incentives with sounder financial conduct, but intuitively it makes sense to me.

I've heard the long-term/vested option, too, and like you, it sounds good to me based on mostly intuition. I'd also like to see some sort of mechanism that makes them suffer some of the losses, and for people who trade stocks, I'd like to see removal of incentives to churn.

I also still fail to see why capital gains can't be taxes the same as regular income, maybe with a few very narrowly defined exceptions to keep people from getting killed when they sell their primary domicile, say, but that's another fight.