Hyman P. Minsky

The Financial Instability Hypothesis: An Interpretation of Keynes and an Alternative to“Standard” Theory

Professor Jacob Viner of the University of Chicago wrote a long and serious review of Keyness General Theorythe only review which drew forth a rebuttal by Keynes. Professor Viner maintained that the General Theory really did not make a sharp break with traditional economics and that Keynes achieved novel results because velocity was allowed to vary and prices and wages were assumed to be rigid.1 Professor Viner s review pointed toward the neoclassical synthesis, which can be said to have reached maturity with Patinkins work at Chicago.2

Central Banking and Money Market Changes

I. Introduction, 171. — II. Two recent institutional changes, 173; the federal funds market, 173; the financing of government bond houses: sale and repurchase agreements with nonfinancial corporations, 176. — III. Implications of these changes for monetary policy, 181. — IV. Implications of the expectation that institutions will change, 185.

Capitalist Financial Processes and the Instability of Capitalism

Banking is a pervasive phenomenon, not something to be dealt with merely by legislation directed at what we call banks. The experience with the control of note issue is likely to be repeated in the future; many expedients for controlling similar practices may prove ineffective and disappointing because of the reappearance of prohibited practices in new and unprohibited forms. It seems impossible to predict what forms the evasion might take or to see how particular prohibitions might be designed in order that they might be more than nominally effective.1

Market Processes and Thwarting Systems

An expository paper that points out that there are two long standing views on business cycles and economic dynamics in general, one emphasizing endogenous stability plus exogenous disturbances and the second endogenous instability plus institutional containing or thwarting mechanisms. The argument supports the endogenous instability perspective and leads to an anti Laissez Faire Theorem and a Limitation Upon Performance Theorem.

The Endogeneity of Money

It was uncharacteristic of Nicholas Kaldor to take an ambiguous stand on any issue, but in the above it is not clear where he stood on the question of the endogeneity or the exogeneity of money, or whether he believed it to be of importance. In his later writings on money he viewed the attempt to control the path of nominal aggregate demand by controlling the path of an arbitrarily defined money supply — the fundamental policy posture of monetarism — as a ‘scourge’.2 If monetarism was a ‘scourge’ then the authorities by operating on interest rates could determine the supply of money (money supply is exogenous), but the overall impact of such policies was so adverse that it was not wise to do so. Once the price of monetarism became evident the authorities would have to accomodate the markets (money supply is endogenous).

Finance and Stability: The Limits of Capitalism

Once again the United States economy is facing a crisis, resolution of which first requires the realization that there are many types of capitalism: Solutions implemented in the past, therefore, may or may not be an appropriate solution today, as they could have been implemented as an answer to a problem posed within the context of a different model. Alternatively, the solution may lie in the implementation of a totally new economic regime in answer to reoccurring problems inherent in capitalism in general. The implementation of a new model is not a unique happening in United States economic history. The interventionist model-set in motion by President Roosevelt in answer to the failure of the laissez-faire model in the 1930s-dealt with the obvious flaw inherent in capitalism in general namely, its inability to maintain a level of aggregate demand consistent with full employment. Implementation of the interventionist model prevented a massive depression of the type experienced in the 1930s from being repeated due to the larger role played by the government sector in maintaining demand via active fiscal policy, while moderating inflation through the use of monetary policy. The interventionist model also recognized the less obvious, deeper flaw of capitalism-namely, the manner in which the financial system can adversely affect the price of assets relative to that of current output. Absent any interventionist policy, the resulting decline in private investment and profits leads to a downward spiral and collapse of the financial sector. The institutional roadblocks included in the interventionist model were sufficient to avert large disequilibriums in asset and output prices, thereby sustaining profits and precluding a deep recession. (Indeed, the Federal Reserve was not forced to act to avert a financial crisis until 1968, when problems arose in the commercial paper market.) The interventionist model, however, was abrogated during the 1980s with the reinstitution of a new laissez-faire model. The new model eliminated many of the restrictions imposed on financial sector, massive increases in national deficits through unproductive public sector spending (made even more inefficient by the resulting interest on the debt), and the growth of speculative financing schemes that left us with too many highly indebted firms. A large, financially induced depression was contained only through the reintroduction of massive governing monetary and fiscal intervention in the form of the S&L bailout and the maintenance of profits with massive deficits. Although the subsequent drop in interest rates has resulted in a rise in asset values and somewhat abated the turmoil in the financial markets, the economy continues to stagnate.

Induced Investment and Business Cycles

This unique volume presents, for the first time in publication, the original Ph.D. thesis of Hyman P. Minsky, one of the most innovative thinkers on financial markets. Dimitri B. Papadimitriou’s introduction places the thesis in a modern context, and explains its relevance today. The thesis explores the relationship between induced investment, the constraints of financing investment, market structure, and the determinants of aggregate demand and business cycle performance. Forming the basis of his subsequent development of financial Keynesianism and his ‘Wall Street’ paradigm, Hyman Minsky investigates the relevance of the accelerator-multiplier models of investment to individual firm behaviour in undertaking investment dependent on cost structure. Uncertainty, the coexistence of other market structures, and the behaviour of the monetary system are also explored.

The Strategy of Economic Policy and Income Distribution

In a capitalist economy, income distribution is compounded out of the distribution of capital income, the dis tribution of labor income and the shares of capital and labor in total income. As capital inequality is much greater than in come inequality, a decrease in capitals share would decrease income inequality. Keynes held that euthanasia of the rentier —that is, a decrease in capitals share of total income—would result from the investment that takes place during sustained full employment. Tolerably full employment has been sus tained ever since World War II, but capitals share of income has not fallen. Full employment over the postwar period has been the result of policy which conformed to a private invest ment strategy. This strategy operates by sustaining and in creasing the returns on capital and also carries threats of finan cial instability and inflation. An alternative public employ ment strategy for full employment policy is available. This strategy would probably lead to a partial euthanasia of the rentier and would tend to diminish the likelihood of financial instability and inflation. Highly stylized examples show that the effects of a partial euthanasia of the rentier, when com bined with mildly equalitarian taxes, transfers and government services, can lead to a substantial decrease in income in equality.

Money and the Lender of Last Resort

In 1957, when my Central Banking and Money Market Changes appeared, there may have been some novelty in pointing out that the monetary and financial instruments, usages, and behavior of the significant banking institutions and financial markets changeor evolvein response to perceived profit opportunities. In 1985, it is commonplace. But the acceptance of the fact that the substance of money has changed strikingly over the past four decades has not significantly changed the way monetary theorists think about money. The assumption of exogenous moneythat there is a well-defined, exogenously determined money supply that the central bank can control with adequate precisionstill permeates monetary theory. Banks still are viewed as passive reactors that transform high-powered money into public money; profit-maximizing behavior by business apparently does not extend to banks and bankers. Since the mid-1960s, the worlds central banks, and our own Federal Reserve System, have been at least as concerned with maintaining the integrity of the banking and financial structure as with the control of a money supply in order to guide the economy to some desired performance goal. Beginning with the Federal Reserves reaction to the credit crunch of 1966 and continuing through the recent episodes of domestic a d international financial trauma, the Federal Reserve has episodically tossed aside any pretense of trying to achieve economic stability through monetary control. It has concentrated its interventions on de-

The Legacy of Keynes.

The author reviews the contribution of John Maynard Keynes (1883–1946) to current economic thought and contrasts Keyness analysis with more orthodox theory in terms of allocation-efficiency and stabilization-efficiency. Before tackling Part 1 of the article, readers may wish to go to Parts 2 and 3 to explore the inferences drawn from the nonneutrality of money and the instability that this may engender. The discussion is controversial and thought-provoking.