A-ROD and the Banks

During the 90's, performance enhancing drug use was rampant in Major League Baseball. With the revelation that A-ROD used performance enhancers, it appears that almost every important player was cheating. There are two main reasons for why performance enhancing drugs were so prevalent in baseball: A lack of oversight and a lack of moral hazard. Both are problems with our current banking system.

For a long time, drug testing was incredibly rare in baseball. The players' union fought random testing for years and only allowed it after the Congress threatened to pass a law mandating it. Although using steroids or other substances was against the rules, there was almost no risk that a player would be caught. Since no one was checking to see if players were cheating, they cheated.

The other major problem was a lack of moral hazard. Even if a player did test positive for the use of a banned substance, the punishment was incredibly minor. A first time offense result only in "treatment". Some argue that the new rules are still too lenient. Even now it takes a minimum of five positive tests for a player to receive a lifetime ban. For many players, using steroids could make the small difference which pays big dividends. A slightly higher batting average or on base percentage could equal millions more. Using a banned substance carried very little risk yet offered huge rewards.

Addressing only one of these problems (oversight or moral hazard) could have prevented the scandal in baseball. A lifetime ban for a first time offender could have easily scared most players even while testing was very rare. On the other hand, random and pervasive testing may also have deterred many players even with the minor penalties. Unfortunately, the game lacked both, and the result was predictable.

We have seen the problem of oversight in baseball play out on the macro level in our financial sector. The government's regulatory agencies and the private market were both asleep on the job. Bernie Madoff perfectly personifies the lack of proper oversight and the incompetence of the SEC. The private market was no better. Banks directly paid credit rating agencies to rate there exotic and mysterious financial products. The result was far too favorable ratings. This would be like mandating drug testing but allowing players to choose when and which laboratory to perform the testing.

We know there was a lack of oversight in the financial system, and now we are seeing the lack of moral hazard. The CEO's and traders who ruined their companies have not been made to pay back their bonuses or their golden parachutes. Many of them still haven't even lost their jobs. The government bailout of the finance sector has used trillions of dollars in taxpayer money to prevent the banks from collapsing and artificially inflate the stock value. The bailout only continues the "heads I win, tails I break even" system of risks and rewards that crippled our economy. Some have claimed that nationalizing the banks, firing the management, and wiping out the shareholders (like the FDIC has done for years to insolvent banks) would destroy trust in the financial system. But the lack of moral hazard has. Until oversight and moral hazard is returned, trust won't.