Protecting Vested Interests Fuels Moral Hazard

The decision to give exceptional guarantee to Ermias T. Amelga was unlike the ruling elite. This is a government that shows little sympathy to private businesspeople. Even if the official rhetoric, mainly directed at pleasing pro-market Western partners, involves sayings, such as “the private sector is the engine of growth”, the practical reality is far from this.

The might of the state is considered as the last resort in the ruling circle. It is often believed that the elasticity of the state is well beyond the markets and it could solve the major problems of the economy. So much as the inclination is towards investing in the potentials of the state, even if it could be overleveraged to crush the markets, entrepreneurship and the profit motive are given less attention.

That is largely why the leniency of the Revolutionary Democrats extended to Ermias, the embattled CEO of Access Real Estate (ARE) and chairman of its board, took the nation’s business circles by surprise. It is not an obvious measure that would come to one’s mind in thinking about solving the long overdue saga that ARE, a company burdened with a very long liability column in it books, has been inflicted with. In a way, it is an unusual decision from the side of the EPRDFites.

Bringing the real estate mogul back to Addis involved suspending charges relating to issuing bad cheques, an offence from which many remain to languishing in jail, and guaranteeing him personal security for a certain period of time. In return, Ermias is expected to resolve the rather intricate problems of ARE and resurrect it with some grace.

The trade is tough for both Ermias and the Revolutionary Democrats. Reviving a company troubled with an overwhelming mismatch between liquid assets and liabilities, not to mention the prevalent credibility deficit it faces, within a year is indeed a tough task. The task would even be tougher considering the sluggish business and bureaucratic procedures in the country.

Betting in favour of a businessman with many adversaries is also too tricky a game for the Revolutionary Democrats to get involved. Although they managed to protect him from the direct burden of the law by way of executive order, which, in itself, further complicates the calculus, controlling the forces of rivalry manifested through normal business activities would not be possible.

As much as one could connect the dots to see the economic calculation behind the decision to let Ermias come in and clear ARE’s mess, it is obvious that the move also has a political motive.

By and large, ARE’s homebuyers are the emerging novueau riche living at home and abroad. Not only do they represent the middle-income ambition that the EPRDFites often proclaim, but they are also sufficiently connected to the political class to influence decision.

Such a class of people are not alien to lobbying and deal-making. They are skilful in using their personal connections to influence policy. Of course, this is not to forget that some members of the political class may also double as homebuyers.

Regardless of the presumptions and calculations involved in the decision, the way the EPRDFites have approached the whole problem has raised questions about their stance and the precedence the decision might leave. There seems to be no politically neutral edge in the debate.

For critics, the decision is evidence to the waning separation of power in the country. They argue that the executive is left unchecked and that it has become all the more powerful to twist the arms of the legislature and the judiciary as it likes. Things go as the executive branch of the government like them to, their argument goes, even if it means going against the laws of the land.

In a purely business sense, though, the debate boils down to the long overdue economic debate of moral hazard. Economic textbooks define the concept of moral hazard as a widespread lack of accountability in the markets infused with improper, unjustified and unacceptable support the state provides to vested interests. It is considered as one of the unfortunate negative externalities of state intervention, which often happen in cases of financial crises.

Unfortunately, the stakes were not that high for the EPRDFites to jump into the turbulent waters of the moral hazard debate. After all, ARE is a company with 652 shareholders and about 2,700 homebuyers. The asset base of the Company is not large enough for its bankruptcy, if it ever happens, to have considerable impact on the economy. It could have effectively been attended through the contract and bankruptcy laws of the land.

Simply put, ARE’s case relates to individual homebuyers and contracting companies that entered into contracts with a troubled contract provider. It, thus, falls within the bounds of the contract law of the nation promulgated to enforce such kinds of commercial relationships. According to the law, each contracting party is expected to be informed about the details of the contract before signing it. And in case of breach of contract, courts would have the power to adjudicate over the case. Similarly, the law is detailed enough on how to handle bankruptcy.

Firm-level state intervention could be justified only when the stakes are too high to the overall economy. This may be instigated by the very size of the firm under problem or the threads connecting it to the real economy. Firms too big to fail and those having intricate connections with the real economy are seen as plausible cases for intervention, be it regulatory protection, bailout or indirect financial support.

If one is to be honest, then, ARE does not fit to any of these categories. It, therefore, is not clear what economic rationale justifies the protection the EPRDFites extended to its CEO.

Their action, however, risks infusing moral hazard in the business circles. Now that businesspeople have seen a popular figure provided with leeway from facing the powers of the law, they might take the case as the new normal. This might make them take disproportional risks, compromise the public interest and put the overall economy at risk.

On the flip side, the practice could fall politics pray to economic powers. This means that those with the money would be the kingmakers, while the masses would be bottom-feeders. Connections and patronage will be the orders of the day, instead of accountability and representation.

Of course, this is not to mention the impact on the credibility of the judicial procedure. A functional economic system could not happen without a credible contract enforcement system. The credibility of the judiciary also matters for conflicts over contracts would be resolved through the due process of law. Actions, be it executive or other, that affect the credibility of the judicial procedure would have a direct impact on the contract regime of the nation. This, in turn, would affect the investment regime of the nation.

One way or the other, the decision by the Revolutionary Democrats have put them in what seems to the most unpopular edge of the debate on state intervention. What they better focus on now is how they could contain the externalities of their decision and avoid a sweeping fire of moral hazard from eating all the economic gains they take pride from. Whereas the issue is too important to ignore for the Revolutionary Democrats, the stake is too high to fail for Ermias T. Amelga.


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