These institutions knew that their failure would result in a systemic collapse, and that they would therefore be rescued at public cost. This acted as a perverse incentive for them to take on risks that we now know were imprudent if not reckless. The moral hazard of “too big to fail” is therefore reckoned as one of the prime causes of the crisis.
Compensation and perverse incentives 14. Finally, the asymmetric compensation structures in many financial institutions encouraged risky behaviour. The variable components of compensations were anchored to short-term profits, were one sided (high in good times and at worst zero in bad times) and had little or no risk adjustment.