High net worth helps to diminish the problem of moral hazard problem by
A)requiring the state to verify the debt contract.
B)collateralizing the debt contract.
C)making the debt contract incentive compatible.
D)giving the debt contract characteristics of equity contracts.

Question

Quizplus · Accepted Answer

High net worth reduces the moral hazard problem by making the debt contract incentive compatible. This means that the borrower has a personal interest in fulfilling their obligations, as defaulting on the loan would result in significant financial losses. This reduces their incentive to behave in a way that jeopardizes the loan, decreasing the likelihood of moral hazard. Verification of the debt contract (A) and collateralization (B) may also help to reduce the moral hazard problem, but they do not specifically address the issue of incentive compatibility. Giving the debt contract characteristics of equity contracts (D) may increase the borrower's incentive to perform well, but would not necessarily reduce the moral hazard problem.

High Net Worth Helps to Diminish the Problem of Moral