To Minsky, this was an “unfair and naive representation of Keynes's subtle and sophisticated views”.Minsky's financial-instability hypothesis helped fill in the holes.His challenge to the prophets of efficient markets was even more acute.Eugene Fama and Robert Lucas, among others, persuaded most of academia and policymaking circles that markets tended towards equilibrium as people digested all available information.The structure of the financial system was treated as almost irrelevant.
In recent years, behavioural economists have attacked one plank of efficient-market theory: people, far from being rational actors who maximise their gains, are often clueless about what they want and make the wrong decisions.But years earlier Minsky had attacked another: deep-seated forces in financial systems propel them towards trouble, he argued, with stability only ever a fleeting illusion.Yet as an outsider in the sometimes cloistered world of economics, Minsky's influence was, until recently, limited.Investors were faster than professors to latch onto his views.More than anyone else it was Paul McCulley of PIMCO, a fund-management group, who popularised his ideas.He coined the term “Minsky moment” to describe a situation when debt levels reach breaking-point and asset prices across the board start plunging.
Mr McCulley initially used the term in explaining the Russian financial crisis of 1998.Since the global turmoil of 2008, it has become ubiquitous.For investment analysts and fund managers, a “Minsky moment” is now virtually synonymous with a financial crisis.Minsky's writing about debt and the dangers in financial innovation had the great virtue of according with experience.But this virtue also points to what some might see as a shortcoming.In trying to paint a more nuanced picture of the economy, he relinquished some of the potency of elegant models.That was fine as far as he was concerned; he argued that generalisable theories were bunkum.He wanted to explain specific situations, not economics in general.He saw the financial-instability hypothesis as relevant to the case of advanced capitalist economies with deep, sophisticated markets.
It was not meant to be relevant in all scenarios.These days, for example, it is fashionable to ask whether China is on the brink of a Minsky moment after its alarming debt growth of the past decade.Yet a country in transition from socialism to a market economy and with an immature financial system is not what Minsky had in mind.Shunning the power of equations and models had its costs.It contributed to Minsky's isolation from mainstream theories.Economists did not entirely ignore debt, even if they studied it only sparingly.Some, such as Nobuhiro Kiyotaki and Ben Bernanke, who would later become chairman of the Federal Reserve, looked at how credit could amplify business cycles.Minsky's work might have complemented theirs, but they did not refer to it.
It was as if it barely existed.Since Minsky's death, others have started to correct the oversight, grafting his theories onto general models.The Levy Economics Institute of Bard College in New York, where he finished his career (it still holds an annual conference in his honour) , has published work that incorporates his ideas in calculations.One Levy paper, published in 2000, developed a Minsky-inspired model linking investment and cashflow.A 2005 paper for the Bank for International Settlements, a forum for central banks, drew on Minsky in building a model of how people assess their assets after making losses.
In 2010 Paul Krugman, a Nobel prize-winning economist who is best known these days as a New York Times columnist, co-authored a paper that included the concept of a “Minsky moment” to model the impact of deleveraging on the economy.Some researchers are also starting to test just how accurate Minsky's insights really were: a 2014 discussion paper for the Bank of Finland looked at debt-to-cashflow ratios, finding them to be a useful indicator of systemic risk.Still, it would be a stretch to expect the financial-instability hypothesis to become a new foundation for economic theory.Minsky's legacy has more to do with focusing on the right things than correctly structuring quantifiable models.It is enough to observe that debt and financial instability, his main preoccupations, have become some of the principal topics of inquiry for economists today.
A new version of the “Handbook of Macroeconomics”, an influential survey that was first published in 1999, is in the works.This time, it will make linkages between finance and economic activity a major component, with at least two articles citing Minsky.As Mr Krugman has quipped: “We are all Minskyites now.”Central bankers seem to agree.In a speech in 2009, before she became head of the Federal Reserve, Janet Yellen said Minsky's work had “become required reading”.In a 2013 speech, made while he was governor of the Bank of England, Mervyn King agreed with Minsky's view that stability in credit markets leads to exuberance and eventually to instability.Mark Carney, Lord King's successor, has referred to Minsky moments on at least two occasions.
Will the moment last? Minsky's own theory suggests it will eventually peter out.Economic growth is still shaky and the scars of the global financial crisis visible.In the Minskyan trajectory, this is when firms and banks are at their most cautious, wary of repeating past mistakes and determined to fortify their balance-sheets.But in time, memories of the 2008 turmoil will dim.Firms will again race to expand, banks to fund them and regulators to loosen constraints.The warnings of Minsky will fade away.The further we move on from the last crisis, the less we want to hear from those who see another one coming.