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Updates on financial fragility in theory and in practice

For students of Hyman Minsky’s theory as it applies to today’s economy, Edward Chancellor’s review of Randy Wray’s latest new book will be interesting. Chancellor is a well-known observer of the financial scene from the UK.

Chancellor notes that in large part Wray’s professor Minsky would have approved of and expected the US policy response to the financial crisis. However, Chancellor notes, despite the stimulus plan and massive Fed intervention, the financial system remains unstable, illustrating Minsky’s theory of the nature of modern capitalism. Even after the less-than-full recovery, as seen in the November unemployment rate (5.0 percent by the most-quoted measure and 9.6 percent by a broader measure of underemployment*),

…little has changed. True, there’s been a mass of new regulations with the Dodd-Frank Act and so forth. But institutionally, things are much the same. The too-big-to-fail banks, which Minsky deplored, have gotten even bigger. “Money manager capitalism,” the latest phase in capitalist development described by Minsky in his last years, emerged largely unscathed. Hedge fund assets are bigger than ever. Credit continues to be created and held outside the traditional banking system. For instance, billions of dollars are now tied up in bank loan ETFs.

Nor did the financial crisis change behavior. The Fed’s safety net was so encompassing that, as Minsky would have predicted, rashness soon returned to Wall Street, with a resurgence of debt-fuelled buybacks and M&A, record issuance of covenant-lite loans, a rapid decline in junk-bond quality, and some $1 trillion worth of emerging market corporate debt, much of it denominated in foreign currencies. While parts of the system have deleveraged, aggregate nonfinancial debt levels, both in the United States and globally, have kept climbing ever higher.

In Minsky’s world, policymakers are caught between a rock and a hard place. Capitalism is fundamentally unstable and prone to crises. If the authorities stand aside during the emergency, another Great Depression beckons. However, if they intervene then destabilizing activities are rewarded and encouraged. More financial regulation is no panacea. According to Minsky, clever financiers will always find ways around existing regulations, however extensive. Capitalism is doomed to an endless cycle of boom and bust.

The phenomena discussed in the review are important and Chancellor provides a good summary, though I am not in complete agreement with even Minsky himself on all issues. In future posts, I hope to write more about extensions (in work with Tai Young-Taft) of the model depicted in my previous post which add Minskyan financial fluctuations. That model gets at the issues involving the appropriate fiscal-policy response to crises: Minsky thought fiscal policy should and did lean against the wind, pushing upward when employment was not full. I also hope to return in the future to the aforementioned quibbles with some Minskyan views described in the review.

Professional and personal note: I send my best wishes to those at the Grenoble Post Keynesian Conference (some photos here), which I was to attend starting earlier today. I am missing the overseas trip, owing to a bad cold. Best wishes also to the students and faculty I have met in the past month in lectures at two post-secondary educational institutions.

Kudos for the review link go to multiplier-effect.org.

*The broad measure is from Table A-15 in this Bureau of Labor Statistics (BLS) document.

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