Problem 21

Introduction

Moral hazard refers to the risk that a party did not enter into an agreement in good faith or provided incorrect information about its assets, commitments, or credit capacity. Moral hazard can also relate to a party's motivation to take extraordinary risks in a haste to make a profit before the arrangement expires. When two people form an agreement with others, moral risks can occur at any time. Each contracting party might have a vested interest in breaking the terms of the agreement.