Riesgo moral

A moral hazard arises because of an information gap in a transaction after the transaction has taken place. It happens because one party cannot observe the actions of the other party. 

For example, many unobservable actions are performed after buying insurance or signing a job contract or a house renovation contract.

Consider Alex, who hires a home renovation firm to make improvements to his house. He pays the renovation firm for the services.

Alex can check a few of the improvements such as the new tiles on the floor, the lighting fixtures added to rooms, the replacement of cabinet doors in the kitchen, and the landscaping of the garden.

However, Alex cannot check a few things because he may not have the expertise, or it is difficult to observe such things. For example, electrical rewiring or plumbing work. Knowing Alex's limitations, the firm does not complete these tasks as agreed.

Moral hazard refers to this tendency of one party to act less diligently or to take on riskier behavior, knowing that the other party will bear the negative consequences of such actions.