Consider a simple example of moral hazard. Suppose that bob goes into a casino to make one bet a day. The casino is very basic; it has two bets: a safe bet and a risky bet. In the safe bet, a nickel is flipped. If the nickel lands on heads, bob wins $100. If it lands on tails, bob loses $100. The risky bet is similar: a silver dollar is flipped. If the silver dollar lands on heads, bob wins $5,000. If it lands on tails, bob loses $10,000. Each coin has a 50% chance of landing on each side.
