Thursday, May 14, 2009

She alerted me to an economist I didn’t know: Hymen Minsky. Minsky explained why Keynes thought the financial markets were instable. When more cash is available than for paying off the debt, a ‘speculative euphoria’ sets in and lending overflows, regardless of the defaults. By the time the defaulters pile up and it is realized, a crisis sets in. Then, less is lent and lesser to those who can pay back; consequently, the economy contracts.

Minsky says this boom and bust are integral to business cycles. This is called the ‘Minsky Moment’ and the theory, the Financial Instability Hypothesis: the inherent nature of financial markets to be instable (but masquerading as stable). Debt accumulation is the free key for the economy to enter into the crisis room and remain locked. Sometime later, the regulators unlock the room (but later leave the room unlocked).

Piling debt and then letting someone rescue us makes no sense as a perennial cycle. We need to convert this debt into equity and this is quite the case when the equity bubble in 2000/01 was not as devastating as the credit bubble of today. The current fiscal stimulus package and far-reaching government intervention have given a new life to Keynesian economics.

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