My paper for INET’s Berlin 2012 Conference

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My paper “Instability in Financial Markets: Sources and Remedies” for the INET conference “Paradigm Lost: Rethinking Economics and Politics“, to be held in Berlin on April 12-14, is now available via the INET website.

If you’d like to download it, you can get it either from my INET page, or from a link on the conference program. For copyright reasons I can’t reproduce it here, but I can provide a quick synopsis and some excerpts, so here goes.

A Primer on Minsky

The paper starts with a synopsis on Minsky, since his “Financial Instability Hypothesis” is one of the key foundations of my approach to economics. He has come into vogue these days of course, but to people who’ve known his work for several decades rather than ever since the “Minsky Moment” of late 2007, a better expression would be that he’s “come into vague”. I read papers like Krugman’s “Debt, Deleveraging, and the Liquidity Trap: A Fisher-Minsky-Koo approach”, and for the life of me, I can’t see Minsky there. As I note in my paper:

Now, after the crisis that his theory anticipated, neoclassical economists are paying some attention to his hypothesis, and there has been at least one attempt to build a New Keynesian model of a key phenomenon in Minsky’s hypothesis, a debt-deflation (Krugman and Eggertsson 2010). However, to those of us who are not new to Minsky, it is hard to recognise any vestige of the Financial Instability Hypothesis in Krugman’s work.

My good friend and long term fellow rebel in economics Professor Rod O’Donnell once remarked that neoclassical economists are incapable of reading Keynes: they look at his words and then spout Walras instead. A similar phenomenon applies here: neoclassicals like Krugman read Minsky, and then proceed to build equilibrium models without banks, and think they’re modelling Minsky.

No they’re not: they’re creating an equilibrium-obsessed Walrasian hand puppet and calling it Minsky—just as they did to Keynes with DSGE modelling.


I used the word “equilibrium” twice above, because one clear methodological aspect of Minsky’s thinking is that macroeconomics is about disequilibrium. Neoclassical economists have the world precisely (to use an evocative piece of Australian slang) arse about tit. They believe that if it’s not an equilibrium model it’s not economics.

Nonsense! The precise opposite is the case: if it isn’t disequilbrium, then it isn’t economics.

There’s nothing “radical” about this, which is often the way that neoclassical economists react when I press this point: “assume disequilibrium? How dare you!?”. I dare because “disequilibrium” is so common in real sciences that they don’t even call it that: they call it dynamics. Any dynamic model of a process must start away from its equilibrium, because if you start it in its equilibrium, nothing happens. It’s about time that economists woke up to the need to model the economy dynamically—and to give Krugman his due here, he does admit at the end of his paper that his dynamics are dreadful, and need to be improved:

The major limitation of this analysis, as we see it, is its reliance on strategically crude dynamics. To simplify the analysis, we think of all the action as taking place within a single, aggregated short run, with debt paid down to sustainable levels and prices returned to full ex ante flexibility by the time the next period begins. This sidesteps the important question of just how fast debtors are required to deleverage; it also rules out any consideration of the effects of changes in inflation expectations during the period when the zero lower bound remains binding, a major theme of recent work by Eggertsson (2010a), Christiano et. al. (2009), and others. In future work we hope to get more realistic about the dynamics.

Hurry up Paul: you’re already eight decades behind Irving Fisher, who put the case for dynamics even for those who assume that equilibrium is stable:

‘We may tentatively assume that, ordinarily and within wide limits, all, or almost all, economic variables tend, in a general way, toward a stable equilibrium… But … New disturbances are, humanly speaking, sure to occur, so that, in actual fact, any variable is almost always above or below the ideal equilibrium…

Theoretically there may be—in fact, at most times there must be—over-or under-production, over- or under-consumption, over- or under-spending, over- or under-saving, over- or under-investment, and over or under everything else. It is as absurd to assume that, for any long period of time, the variables in the economic organization, or any part of them, will “stay put,” in perfect equilibrium, as to assume that the Atlantic Ocean can ever be without a wave.’ (Fisher 1933, p. 339)

Endogenous Money

One key component of Minsky’s thought is the capacity for the banking sector to create spending power “out of nothing”—to quote Schumpeter. As well as explaining endogenous money, I show that Minsky’s analysis leads to the conclusion that aggregate demand is greater than aggregate supply arising from the sale of goods and services alone—and therefore that rising debt plays a crucial role in a capitalist economy:

If income is to grow, the financial markets, where the various plans to save and invest are reconciled, must generate an aggregate demand that, aside from brief intervals, is ever rising. For real aggregate demand to be increasing, . . . it is necessary that current spending plans, summed over all sectors, be greater than current received income and that some market technique exist by which aggregate spending in excess of aggregate anticipated income can be financed. It follows that over a period during which economic growth takes place, at least some sectors finance a part of their spending by emitting debt or selling assets. (Minsky 1963; Minsky 1982) (Minsky 1982, p. 6)

This aggregate demand is spent not just on goods and services, but also on buying financial assets—hence economics and finance are inextricably linked, in opposition to the failed neoclassical attempt to keep them separate in two hermetically sealed jars. This in turn transcends Walras’ Law to give us what I call the Walras-Schumpeter-Minsky Law:

Aggregate demand is income plus the change in debt, and this is expended on both goods and services and financial assets. Therefore in a credit-based economy, there are three sources of aggregate demand, and three ways in which this demand is expended:

1.    Demand from income earned by selling goods and services, which primarily finances consumption of goods and services;

2.    Demand from rising entrepreneurial debt, which primarily finances investment; and

3.    Demand from rising Ponzi debt, which primarily finances the purchase of existing assets.

Neoclassical Misinterpretations of Fisher, Minsky & Banking

“How do you misinterpret me? Let me count the ways…”

There are so many ways in which neoclassical economists misinterpret non-neoclassical thinkers like Fisher and Minsky that I could write a book on the topic. This section focuses on just one facet of how they get it wrong: by ignoring banks, and treating loans as transfers from “savers” to “spenders” with no bank in between.

This is precisely how Krugman models debt in his recent paper:

In what follows, we begin by setting out a flexible-price endowment model in which “impatient” agents borrow from “patient” agents, but are subject to a debt limit. If this debt limit is, for some reason, suddenly reduced, the impatient agents are forced to cut spending… (Krugman and Eggertsson 2010, p. 3)

This is debt without banks—and without the endogenous creation of money—and it explains why neoclassical economists don’t think that the level of private debt matters.

With that vision of debt, a change in the level of debt isn’t important, because the borrower’s increase in spending power is counteracted by the lender’s fall in spending power. Here’s the lending process as neoclassicals like Krugman see it:

Assets Deposits (Liabilities)
Action/Actor Patient Impatient
Make Loan +Lend -Lend

Krugman therefore reassures his blog readers that there’s nothing to worry about when private debt levels rise or fall:

People think of debt’s role in the economy as if it were the same as what debt means for an individual: there’s a lot of money you have to pay to someone else. But that’s all wrong; the debt we create is basically money we owe to ourselves, and the burden it imposes does not involve a real transfer of resources.

That’s not to say that high debt can’t cause problems — it certainly can. But these are problems of distribution and incentives, not the burden of debt as is commonly understood. (Krugman 2011)

That would be reassuring if true, since we could then ignore data like this:

Unfortunately, real lending is better described by the next table:

Bank Assets Bank Deposits (Liabilities)
Action/Actor Patient Impatient
Make Loan +Lend -Lend

In the real world, a bank loan increases “Impatient”‘s spending power without reducing “Patient”‘s, so that the level of private debt does matter.

Applying Minsky to Macroeconomic Data

In particular, the rate of change of debt matters because that tells us how much of demand is debt financed. When you add the change in debt to GDP, you get total aggregate demand, and that makes it exceedingly clear why the economic crisis occurred: the growth of debt collapsed, and took the economy with it:

Since change in debt is part of aggregate demand, the acceleration of debt—the rate of change of its rate of change—affects change in aggregate demand. This in turn has impacts on the change in employment.

It also impacts on change in asset prices. The relationship between accelerating debt and rising asset prices is clear even in the very volatile world of the stock market:

It is undeniable in the property market:


Since asset market volatility is driven by the acceleration of private debt, the Minskian solution to instability in finance markets is to somehow sever the link between debt and asset prices. I put forward two ideas.

Jubilee Shares

Currently, shares last for the life of the issuing company, and 99% of the trade on the stock market is in the secondary market. The Jubilee Shares proposal would allow shares to last forever as now when purchased on the primary issue market, but would have them switch to a defined life of (say) 50 years after a limited number of sales on the secondary market (say 7 sales). This would encourage primary share purchases, and also make it highly unlikely that anyone would use borrow money to buy Jubilee shares on the secondary market.

Property Income Limited Leverage

Currently lending to buy property is allegedly based on the income of the borrower—which gives borrowers an incentive to actually want higher leverage over time. “The PILL” would limit the amount that can be lent to some multiple (say 10 times) of the income generating capacity of the property itself.

End of Synopsis

There’s much more detail in the paper itself, and when the conference is held my talk on it will also be available on the INET website.

Attending the conference

The conference itself has only 300 invitees, and INET had overwhelming demand from students for the 25 places they reserved for them. Rather than letting the over 500 other applicants miss out, these other applicants can watch the conference live from a special live video broadcast room at the Adlon Hotel, right next to the conference venue itself in Berlin. Click here for details if you’re one of those 563 applicants.

About Steve Keen

I am Professor of Economics and Head of Economics, History and Politics at Kingston University London, and a long time critic of conventional economic thought. As well as attacking mainstream thought in Debunking Economics, I am also developing an alternative dynamic approach to economic modelling. The key issue I am tackling here is the prospect for a debt-deflation on the back of the enormous private debts accumulated globally, and our very low rate of inflation.
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81 Responses to My paper for INET’s Berlin 2012 Conference

  1. RJ says:

    Krugmans comments are spot on and I’m unsure why Steve continues to criticise them

    Unless he still does not understand the massive difference between PRIVATE debt and monetary sovereign GOVT debt (MSGD). Most economists don’t so this is likely.

    Especially when the MSGD is backed by GOVT BONDS rather than money.I know banks buying Govt bonds means the additional money is not drained but

    money = debt
    Money = a financial asset
    Debt = money or a financial asset like Govt bonds

    We need more Govt debt (a lot more) to be able to save enough for our retirement. Until Krugman’s very sound logic is understood more fully (and economists like Steve do harm by criticising these comments) we risk screwing the economy completely (even worse than at present) due to ignorance about debt and MSGD.

  2. NeilW says:

    “In the real world, a bank loan increases “Impatient”‘s spending power without reducing “Impatient”‘s, so that the level of private debt does matter.”

    There’s a transcription error in that sentence. Second ‘impatient’ should be ‘patient’.

  3. Cassander says:

    Steve, the ‘US Aggregate Demand 1980-2012’ graph in this post appears to be missing the RHS scale, i.e. the one for change in private/public debt. This is also true of Figure 3 in the PDF of the full paper.

    Also, the font size for the horizontal (year) scale of Figs 3 & 4 needs to be reduced – the text is running together.

  4. Steve Keen says:

    In a nutshell you’ve identified why I reject MMT RJ. No endogenous money creation by the private sector eh?

  5. Steve Keen says:

    Thanks Neil, I’ll fix it.

  6. NeilW says:

    “In a nutshell you’ve identified why I reject MMT RJ. No endogenous money creation by the private sector eh?”

    To be fair Steve MMT doesn’t say that either. Their horizontal circuit is pretty much the same as yours. Plenty of endogenous money creation going on in the private circuit causing all sorts of Minskian fun and games.

    RJ’s interpretation is not accurate.

  7. Cassander says:

    Whoops, sorry, I didn’t see the “+” sign in the “+Change in Private Debt” and “+Change in Public Debt” captions on the ‘US Aggregate Demand 1980-2012? graph! Time to get some new reading glasses… No need for a different scale on the RHS vertical axis then.

    However, unless there’s something wrong with the fonts for my Adobe Reader installation then the font size for the horizontal (year) scales of Figs 3 & 4 in the PDF does need to be reduced. The copy of the Fig 3 ‘US Aggregate Demand 1980-2012? graph in the post looks OK though, so maybe I do have a font problem – does anyone else see a problem with the text on the horizontal scales for Figs 3 & 4 in the PDF?

  8. Blissex says:

    The problem with your “Remedies” section is that it is irrelevant as such; there is no shortage of technical means.

    The biggest point to make is that some countries have had wild Minsky style booms and some haven’t.

    The difference is not that some countries use different and better techniques, it is a difference in political will: some countries, notably most “anglo” countries, have expressed a very strong political goal of driving up tax-free capital gains and driving down often heavily taxed working incomes.

    Minsky booms are consequence of policies aiming to redistribute incomes via inflation, in particular asset price inflation.

    Inflation is always and everywhere a political phenomenon, and has been for thousands of years.

  9. centerline says:

    RJ – you seem to ignore the fact that gov debt is not soveriegn. It is created by private entities (central banks) for profit.

  10. NeilW says:

    “It is created by private entities (central banks) for profit.”


  11. centerline says:

    NeilW –

    Do you know anything about the Federal Reserve in the US? What it is and who owns it? Do you think this arrangement is any different elsewhere?


  12. centerline says:

    Blixxex – great points. I agree that much of the mechanics are politically driven, and the culture of a nation plays a pivotal role in the outcome. Other factors are human in nature – greed and power mainly. This is part of what I believe gets missed in so much of the academic, double-entry, mostly linear, etc. study of classical ecomonics. I enjoy reading Steve’s work because he does not appear to be trapped inside this box like so many others.

  13. NeilW says:

    ” What it is and who owns it?”

    Yes. I also know about de facto and de jure. And I know who gets the dividend.

    The separation of central bank and government is a fairy tale of the sort designed to frighten small children. It shouldn’t fool those of a rational mind.

  14. Blissex says:

    «Do you know anything about the Federal Reserve in the US? What it is and who owns it?»

    Most people who write things like these don’t know much about the Federal Reserve, and in particular as a rule are wholly ignorant of the important distinction between the Federal Reserve System and the Federal Reserve Board, who are two really different things,

  15. RJ says:

    “RJ’s interpretation is not accurate”.

    Unsure what you mean by this. But my point above is accurate. Steve criticises Krugman when he was referring to US Govt debt (that is completely and utterly different to non Govt debt).

    And re MMT (from the Mosler site)

    Government $deficit = non government $surplus (net financial assets)

    There are articles on this site explaining this that you should read.

  16. RJ says:

    “In a nutshell you’ve identified why I reject MMT RJ. No endogenous money creation by the private sector eh?”

    To be fair Steve MMT doesn’t say that either.

    Of course MMT doesn’t. I’m unsure where Steve gets his MMT views from.

  17. centerline says:

    While the current system relies on both to function, the seperation is real as private interests are vested in the creation of government debt and shape policy. Private hands profit from the creation of public debt – and this is a direct conflict of interest. Many more profit due to proximity to the debt creation through numerous mechanisms that are based in the private, not public, sector.

    While no system is perfect, the current system is built by bankers for bankers. Hence, our currency is not soveriegn.

    Is a certainty that politicians would make poor stewards of a nations currency, but unless the field of modern economics embraces some of the “human” realities of how the system is built, it will fail society at this critical juncture. Might be relegated to the dustbin of history (aking to alchemy in place of another science if it does not change course soon enough.

    I would love to hear how anyone sees this as any different.

  18. RJ says:

    “The separation of central bank and government is a fairy tale of the sort designed to frighten small children. It shouldn’t fool those of a rational mind.”

    Agree. CL has read too many confused web sites (or watched videos like for example the money masters) . There are a good number about.

  19. centerline says:

    Blissex – are you really using a technicality in my post (clarification in wording – thanks) to whitewash over the reality of how the system is constructed? How private interests profit from the creation of public debt? Please clarify your position rather than turn to silly attacks. Please enlighten us.

  20. RJ says:

    “While the current system relies on both to function, the seperation is real as private interests are vested in the creation of government debt and shape policy. Private hands profit from the creation of public debt ”

    The people are the main beneficiaries from Govt debt as they pay less tax. Less tax equals more money in their back pocket. (more money to either save or spend. And the west currently needs more of both)

    And where does this Govt debt (and financial asset) come from (for monetary sovereign Govts). From a simple journal entry. The money does NOT HAVE TO BE BORROWED as many believe.

  21. Steve Keen says:

    You haven’t read Krugman properly then RJ. He was criticising people worrying about any form of debt, including private.

  22. RJ says:

    How private interests profit from the creation of public debt?

    Why don’t you back this comment up. At present we have too much private debt and too little Govt debt. So everyone but for bankers and financiers would benefit from more Govt debt

  23. RJ says:


    As I understand Krugman he was noting the two sided nature of debt

    One side being a financial asset and the other a financial liability. Many (or most) focus on the liability side but completely and utterly ignore the asset side.

    This is key with US Govt debt. The journal entry created Govt debt liability is almost irrelevant to the Govt. But is critically important to create a asset for pension fund saving.

    Either Govts run deficits. Or we all can not all save. And will return to a few holding all the money. And the rest being no better than debt slaves

  24. centerline says:

    You guys are simply dodging the issue here. Private parties profit from the creation of government debt. It is not a free lunch – and policy guided in this manner is not always in the best interest of the people. As a result, the wealth within such economies will become concentrated at the top over time.

    Higher government debts being used to counter otherwise higher taxes is also a function of governments routinely spending beyond thier means. Politicians dont get re-elected by cutting services, pensions, etc. (see what I said above about politicians not making good stewards). The pressure to behave in a prudent manner simply is not there. And dont think for a moment that this is something new! This is history repeating itself over and over… exponential growth in a world of finite resources is not something that can continue forever. Social complexity and understanding are also real limits. This time though, the problem is global. Solutions are not closed system when you have to consider the effects on other economies – especially when talking about a reserve currency backed by a strong military. Is a classical recipe for war.

  25. RJ says:

    “As a result, the wealth within such economies will become concentrated at the top over time”

    This is almost guaranteed without Govt debt. (Which is what the outcome of the Euro will be).

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