Why does the global economy stuck in a Minsky-Moment still now?
The financial system developed after WWII left large chinks through which the Ponzi behaviour that led to the Great Depression could recur. Key here was the definition of capital assets—shares and property—that made it possible for leveraged speculation on asset prices to be profitable for individual speculators. Over time the temptation this gave to debt enabled the banking system to return to the same irresponsible behaviours that caused the Great Depression. This resulted in an almost exponential rise in debt levels since 1945 in America.
Cumulative US Debt to GDP Ratios, Graph: Prof. Steve Keen
These sectoral breakdowns show that business debt followed the „ratcheting up“ pattern that Minsky noted happened for genuine investment, but the financial sector debt grew effectively exponentially as Ponzi behaviour came to dominate the whole sector.
In my opinion this tendency to more and more Ponzi financing would have reached a natural peak in 1987 and led to a mild Depression then, were it not for the interventions of the Federal Reserve, which encouraged the Ponzi behaviour to recommence in a new sector. So once lending to commercial real estate failed in the 1980s, lending shifted to the Savings and Loans; then from there to the DotComs; and from there to the Subprimes. Each time it was a continuation of the capacity of the financial system to endogenously expand credit leading it to give credit to whichever social group it could entice to take it on, with them being seduced into debt by the prospect of leveraged gains.
US Business Debt, Graph: Prof. Steve Keen
US Finance Sector Debt, Graph: Prof. Steve Keen
The short-term price stability seems threatened by the risk of deflation, as the latest CPI data showed that the core rate in January slipped below zero for the first time since 1982. But why doesn’t the consensus of macroeconomic forecast signal any decline in inflation?
Conventional macroeconomists follow the neoclassical approach, and that school of thought has simplistic theories of inflation which blame the government for “printing too much money”. Since the government is doing just that I think they therefore expect inflation. In fact since the money supply is endogenously set, and since lenders no longer want to take on more risk via lending, the money is not being lent out and inflation is not resulting.
Instead the system is imploding, if slowly, for the same reasons that Fisher gave in the 1930s: the private sector is cutting margins to try to get market share and thus pay down its own debt levels, but in the process it is causing deflation.
What role do you think the ECB has played for the crisis in the euro zone right now? In a matter of fact the ECB has supported with its dogmatic monetary policy (i.e. excessively tight, inflation targeting too low etc.) the appreciation of the Euro.
The ECB plays a major role since under the Maastricht treaty it is only obliged to fund fiscal deficits of up to 3% of GDP. Since many Euro countries face deficits four times that, up to 75% of the government deficits must be met by bond sales onto the private market. This will cause spreads to blowout and may even result in bond offers not being fully subscribed, forcing governments to cut back to spend within their revenues.
That will be a deflationary force at a time when governments should be running deficits. The ECB is also probably playing a major role in trying to maintain the power and importance of the financial sector, when a necessary step in getting out of this crisis is breaking that power.
Thank you very much.
Steve Keen is Associate Professor in economics and finance at the University of Western Sydney and author of the popular book “Debunking Economics”. He has over 40 academic publications on topics as diverse as financial instability, the money creation process, mathematical flaws in the conventional model of supply and demand etc. His “Debtwatch Blog” and website of “Debunking Economics”.
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