Were inextricably linked. A quote that illustrates this to me strongly came from a Bloomberg article today. The ECB decided to tell the countries that have high soverign debts to go to hell, and now that they aren’t going to take on the risk themselves private investors aren’t willing to and are selling.
This makes sense, previously people purchased the junk on the basis that someone else would pay for it – high return low risk! Now that they have to face the real risk profile they are like “f**k that”. However, Bloomberg (or at least David Kovacs) stated:
The reason the market is horrified now is Trichet said it’s not even being discussed. Smart investors are basically selling risk(y) assets
No s**t. An asset appeared low risk, and now it is high risk, and the expected return is (at most) unchanged – so the risk adjusted return is lower. No wonder they want to sell.
Now we are in a crisis, and if there is a run on good quality debt because of concerns we have to do strange things – sure. But we need to come up with a system that rips this moral hazard out of the system. It is the moral hazard that helps to drive crisis after crisis ultimately.