HOW INCENTIVES CONTRIBUTED TO THE GREAT RECESSION?

Open Access
Author:
Wu, Renyu
Area of Honors:
Finance
Degree:
Bachelor of Science
Document Type:
Thesis
Thesis Supervisors:
  • Sajay Samuel, Thesis Supervisor
  • Brian Davis, Honors Advisor
Keywords:
  • Financial Crisis
  • Great Recession
  • Incentives
  • Intrinsic Motivation
  • Securitization Food Chain
Abstract:
Incentives are widely assumed to be both necessary and beneficial to the proper functioning of markets. Unsurprisingly, a variety of incentives were used throughout the securitized mortgage market. Every link in that so called “securitized food chain” was regulated by incentives mechanisms designed to align the interests of the contracting parties. Yet, the failure of this securitized mortgage market was a key element in the most consequential economic disaster since the Great Depression. In this essay, I describe the incentive mechanisms built into the mortgage backed securities market. I review the claims made on behalf of these mechanisms and highlight the recognition of their failure as contributing to the financial crisis of 2008. I then argue that incentive mechanisms will always fail to work as expected and further that behaving in response to incentives is not the same as behaving ethically.