The Cobra Effect: Good Intentions, Perverse Outcomes

No loophole goes unexploited

Posted Oct 08, 2016

Economist Horst Siebert coined the term “cobra effect” based on the following:

When the British ruled India, bureaucrats in Delhi grew concerned about the proliferation of cobras in the city.  To get the problem under control, authorities offered a bounty on cobra skins.  This economic incentive worked well – too well, as it turned out.

Soon cobras were being slain willy-nilly, and the government was pleased with its bounty program.  However, several enterprising Indians heard the knock of opportunity in the cobra’s hiss.  These opportunists began breeding cobras for their skins. 

And so it wasn’t long before the British were up to their knickers in cobra skins.  When officials discovered the scam, they withdrew the bounty.  But that’s not the end of the story.

With the bounty program cancelled, innumerable cobra breeders in Delhi were stuck with, shall we say, “excess inventory.”  The herpetological bubble had burst, and their erstwhile cash cobras had become lethal liabilities.  So the breeders set their vipers free.  And once again, Delhi had a cobra problem – only worse than before.

The same thing happened during France’s occupation of Vietnam.  Rats plagued Hanoi.  Authorities offered a bounty for each rat tail.  Result:  Citizens began breeding rats for their tails.  When the bounty was withdrawn, the rats were released into the city.    

Fort Benning, Georgia was having a problem with feral pigs.  The Army offered hunters a bounty of $40 for every pig tail turned in.  People began buying pig tails from butchers and slaughterhouses at “wholesale” prices, then “reselling” the tails to the Army at the higher bounty price.

Wells Fargo set unrealistic sales goals for bank employees and exerted enormous pressure to meet those goals.  Result:  Rampant opening of unauthorized accounts by employees in order to meet goal and keep their jobs.

The cobra effect is the opposite of adverse selection.  In adverse selection, the buyer in a transaction has more information than the seller and uses that knowledge to take unfair advantage.  For example, a person whose car is out of warranty but in need of repairs might buy an extended warranty before taking the car to the shop.  In the cobra effect, it is the seller who has greater knowledge than the buyer and uses it to take unfair advantage.

And so it goes.  No rube goes unexploited whenever Machiavellians see an opportunity.