We apply existing theory as a preliminary analysis of whether efficient contracts can evolve naturally. Any banker could belong to one of two cultures – patient and impatient. We suggest that the interaction of patient bankers with other patient bankers is a critical element in the success of efficient contracts while the interaction of impatient bankers with other impatient bankers leads to the spread of moral hazard in the banking system. We show that the success (or failure) of efficient contracts depends on the initial proportion of bankers who are part of the patient culture. We further show that regulatory uncertainty could lead to the systematic spread of inefficient contracts. We find the same effect if corporate governance weakens. Thus, our paper places agency theory where patience is a cultural paradigm. This uses well-known theory to understand the system wide impact of regulatory change. As a result we suggest that well intentioned regulation may have counter-productive effects. Moreover, we suggest that a culture that rewards inefficient contracts is more likely to take root when crony capitalism weakens governance.
- moral hazard,
Available at: http://works.bepress.com/atinbasu/25/