Skip to main content

Moral hazard and climbing mountains in flip flops

The Lochaber Mountain Rescue team in Scotland recently had to rescue someone who fell after setting off up one of Scotland's highest mountains in flip-flops. This looks like a textbook example of moral hazard. Moral hazard arises whenever someone (the principal) 'employs' someone else (the agent) to do a job and the agent takes 'more risk' than the principal would like. In this case mountain rescue essentially 'employs' people to not be dumb in the mountains, but too many of us are dumb in the mountains.  
        But, here's an interesting issue: In the textbook story of moral hazard the agent takes proper account of incentives. So, a person takes greater risk in the mountains because he knows that mountain rescue will save him. On this account, scrapping mountain rescue might negate the need for mountain rescue. 
        I would be surprised, however, if the three men involved in this story knew a great deal about Lochaber Mountain Rescue. Instead, I would suggest they were responding to a more generalized moral hazard 'if something goes wrong someone will save me'. With this more generalized moral hazard people are going to risks whether mountain rescue exists or not. So, you better have a mountain rescue.
        It is easy to see how such generalized moral hazard can become too big a burden on society. If people expect that 'someone will save me' then we need a lot more than mountain rescue. It always amazes me, for example, when listening to radio phone-ins and the like, how strongly some people feel that they have a right to welfare payments and benefits. It is a kind of 'because I am poor someone must rescue me' type of argument.
        Let's be clear. I am not arguing that we should scrap mountain rescue or stop transferring wealth to the poor. What I am arguing is that there needs to be a greater recognition such things involve voluntary transfers. People are not rescued off mountains by pixies, they are rescued by people who voluntarily give of their time. Similarly the money for welfare payments does not grow on trees, it is a 'voluntary' transfer from rich to poor.
        If we forget the voluntary nature of transfers then generalized moral hazard will be impossible to keep in check. Basically, we get a strange reversal of roles. It is supposed to be that because of mountain rescue people take more risk in the mountains. Or, because of welfare people take more risk with investing in their future. But, we increasingly seem to live in a world where people take risk in the mountains because they expect there to be a mountain rescue. And they take risk investing for the future because they expect the welfare system to save them.             
        
    

Comments

Post a Comment

Popular posts from this blog

Revealed preference, WARP, SARP and GARP

The basic idea behind revealed preference is incredibly simple: we try to infer something useful about a person's preferences by observing the choices they make. The topic, however, confuses many a student and academic alike, particularly when we get on to WARP, SARP and GARP. So, let us see if we can make some sense of it all.           In trying to explain revealed preference I want to draw on a  study  by James Andreoni and John Miller published in Econometrica . They look at people's willingness to share money with another person. Specifically subjects were given questions like:  Q1. Divide 60 tokens: Hold _____ at $1 each and Pass _____ at $1 each.  In this case there were 60 tokens to split and each token was worth $1. So, for example, if they held 40 tokens and passed 20 then they would get $40 and the other person $20. Consider another question: Q2. D...
Post a Comment
Read more

Nash bargaining solution

Following the tragic death of John Nash in May I thought it would be good to explain some of his main contributions to game theory. Where better to start than the Nash bargaining solution. This is surely one of the most beautiful results in game theory and was completely unprecedented. All the more remarkable that Nash came up with the idea at the start of his graduate studies!          The Nash solution is a 'solution' to a two-person bargaining problem . To illustrate, suppose we have Adam and Beth bargaining over how to split some surplus. If they fail to reach agreement they get payoffs €a and €b respectively. The pair (a, b) is called the disagreement point . If they agree then they can achieve any pair of payoffs within some set F of feasible payoff points . I'll give some examples later. For the problem to be interesting we need there to be some point (A, B) in F such that A > a and B > b. In...
Post a Comment
Read more

Prisoners dilemma or stag hunt

Over Christmas I had chance to read The Stag Hunt and the Evolution of Social Structure by Brian Skyrms. A nice read, very interesting and thought provoking. There’s a couple of things in the book that prompt further discussion. The one I want to focus on in this post is the distinction between the stag hunt game and the prisoners dilemma game.    To be sure what we are talking about, here is a specific version of both type of game. Adam and Eve independently need to decide whether to cooperate or defect. The payoff matrix details their payoff for any combination of choices, where the first number is the payoff of Adam and the second number the payoff of Eve. For example, in the Prisoners Dilemma, if Adam cooperates and Eve defects then Adam gets 65 and Eve gets 165. Prisoners Dilemma Eve Cooperate Defect Adam Cooperate 140, 140 65, 165 Defect 165,...
Post a Comment
Read more