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Sunday, March 24, 2013

The Immorality Premium and Morality Cycles

In the world of finance, one often talks of a risk premium. It is how much more an investor must expect to be paid in order to take on increased risk. This risk arises from the uncertainty over the outcomes of transactions and investment. In general, the premium flows from the more risk averse to the less risk averse. Those who have a strong preference against risk (maybe worries about risk keep them from sleeping at night, or impair them with anxiety) will trade off lower expected returns for a greater reassurance that “they have what they have.”  Those who are barely bothered by risk (or even enjoy it) find an extra source of income.  This logic can also be applied to morality.

Our society likes to talk of encouraging more ethical/moral behavior and might suggest increasing the rewards for people being more moral (and in some religions suggesting that there are heavenly, after-life rewards). However, as the above suggests, the  flow of pecuniary benefit will tend to be from those who choose to be moral, or at least want to be seen as moral, to those who are either indifferent or disinclined to moral behavior. Indeed, the greater the discrepancy in moral preference between the most moral and the least moral, the greater the premium paid by the former to the latter.

Now, consider  the notion of  moral capital,  the capacity to behave morally. This capital is generated when people choose to behave morally, and in the process show others how to act morally. In particular they must demonstrate what is to behave morally, as well as the non-pecuniary benefits from it (e.g being happier).  It is reasonable to assume that part of social cohesion, and hence economic well-being for society as a whole, is dependent on the amount of moral capital. The existence of an immorality premium implies an interesting dynamic. As moral capital increases, the greater the immorality premium. The greater the immorality premium the stronger the incentive to immorality, and hence a contango of moral capital. This incentivizes society to become less moral, and a degradation of well-being. However, this also would be associated with a decreasing immorality premium. Eventually the premium becomes small enough that moral capital starts accumulating again, thus generating a morality cycle (similar to a business cycle).