Stability Breeds Instability?
The argument that “stability breeds instability” is commonly associated with Post Keynesian economist Hyman P. Minsky. This observation is a core tenet of Minsky’s financial instability hypothesis; a theoretical model of the modern capitalist business cycle that melds Keynes’ investment-driven model with the capital structures that support it. Simply put, Minsky realized that Keynes’ framework was fundamentally flawed, because the latter largely ignored how firms financed their respective investments. Consequently, Keynes could not adequately explain the role of finance in destabilizing the economy and facilitating the boom & bust dynamic inherent within capitalism.
Minsky addressed this problem by arguing that as the business cycle progresses, profits rise, and unemployment falls, private firms, in the pursuit of maximizing profits, will adopt increasingly unstable capital structures. I will further detail the reasons for this in a later post, but for simplicity’s sake they can be narrowed down to 1) Rising profits make increasing leverage look less dangerous, interest payments appear to be well covered by abnormally high cash flows 2) More profitable (and safer) investment opportunities are exhausted at the beginning of the cycle, this profitability also feeds into number 1 as early investment increases aggregate income and employment 3) Financial firms exhaust safe lending opportunities early in the cycle, credit standards are relaxed in order to maintain volume and associated fees, and 4) Both consumers and firms adopt the rose-colored glasses that mark all economic boom cycles, as past downturns fade from consciousness and recent expansion is extrapolated far into the future.
What I find particularly appealing about Minsky’s theory, and why it inspired the name of this blog, is that it embraces the idea that economic downturns are endogenous to the capitalist system. It is far too common for recession to be blamed on exogenous factors, e.g. “If only we could get the Government/Regulators/Fed, etc. out of private business everything would fix itself.” This is a fallacy based on the antiquated notion that a capitalist economy naturally seeks out “equilibrium,” or a romanticized state in which private capital and labor are simultaneously engaged in an optimum state of economic activity that maximizes productivity and employment. In a later post I will go into more detail about why I think the concept of economic equilibrium, as it is commonly discussed, is a myth.
Lastly, Minsky’s argument that stability is destabilizing is thought-provoking and timely because it cuts to the core of the neoliberal argument that The Market, an unfaltering and seemingly divine complex organism, should be trusted to freely allocate income, wealth, and resources throughout the economy. Minsky provides an integral piece of the heterodox deconstruction of this fallacy. His work shows how the capitalist marketplace sows the seeds for its own malinvestment, financial fragility, and eventual recession.
