Lending Risks: Adverse Selection and Moral Hazard

You're probably lending your money to the wrong person. Imagine you have two aunts.

Aunt Sheila is a gambler desperate for cash, and Aunt Louise has a solid business

plan. Who’s more likely to beg you for a loan? Sheila,

of course. That's called adverse selection. Or what about Uncle Melvin?

You lend him money for a new business, but he secretly blows it all at the racetrack.

That's moral hazard. This is exactly why we need banks and financial institutions. They are the experts

at sniffing out the "Sheilas" and "Melvins," solving this information gap.

They make sure your savings actually fund good ideas, not just get-rich-quick schemes.