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Tuesday, January 8, 2013

Transcript: Claudio Borio and the ghost of Hyman Minsky

Today on the podcast, Credit and the Financial Cycle, a look at a recent paper by Claudio Borio,

Then an excruciating experience listening in on economists
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The most talked about paper in recent months came from Claudio Borio of the Bank for International Settlements, BIS, working paper number 395, "The Financial Cycle and Macroeconomics: What Have We Learnt?"
"It is high time," Borio begins, "that we rediscovered the role of the financial cycle in macroeconomics. In the environment that has prevailed for at least three decades now, it is not possible to understand business fluctuations and the corresponding analytical and policy challenges without understanding the financial cycle."

We get deeper in the weeds with Borio in our post Thursday at ReMacroBaseline.com, and Mr. Borio displays an intellectual objectivity and critical thinking often and sadly lacking in the orthodoxy. But where has he been? What has he learnt? The most remarkable thing about this paper is that it is delivered entirely without referencing Hyman Minsky or Steve Keen. The financial cycle he explores here is the credit cycle, the boom and bust, and it is really more primitive in some ways than that developed by Minsky 35 years ago. In particular, the theta – time – component is still fundamentally T+1, T+2, etc, and not Minsky's historic time. And the sophistication of Minsky's financing structures of hedge, speculation and Ponzi is miles above what Borio approaches here.

And is he not aware that Steve Keen used the credit cycle, if you want to call it that, to predict the Great Financial Crisis? If this is the most enlightened of its support, which the BIS generally is, then it is no wonder official policy is so weak.

There is much to pique interest in the paper, and it is not exactly redundant to Minsky and Keen. So it provides a kind of stereoscopic effect which brings detail and depth. The empirical work is also extensive. Good to have all that stuff.

The link to the paper is in the transcript at demandsideeconomics.net, and we reproduce some of the charts Thursday at REMacro.

Borio tracks his financial cycle alongside the business cycle, producing impressive waves on graphs that some might take to be evidence of forces beyond the control of men, when in fact they are two-dimensional representations of human behavior. Not that Borio himself makes that mistake. For his part, he seems quite aware of the frailties of men and policy.

Some findings and observations from the paper:

"Recessions that coincide with the contraction phase of the financial cycle are especially severe."

Well, yes. They are "depressions," "debt deflations."

Soros, Keen, Minsky and others might say that the expansion phase of the financial cycle can simply wash out recessions. This is what happened in the period after 2000, when the Fed under Greenspan and the unfettered Wall Street innovations blew a credit bubble up over an employment recession. The eight years of George W. Bush produced fewer jobs than any other presidency in the post-war era. he came within a million or so of producing negative job numbers, with the great part of this time with the economy in recovery or expansion.

But I digress.

Other observations from Borio

Deregulation creates problems, or as he says,
"Financial liberalization weakens financing constraints, supporting the full self-reinforcing interplay between perceptions of value and risk, risk attitudes and funding conditions. A monetary policy regime narrowly focused on controlling near-term inflation removes the need to tighten policy when financial booms take hold against the backdrop of low and stable inflation."

Demand Side might say, when you have the artillery trained on the inflation mouse, you can lose sight of the debt boom coyotes in the barnyard.

Again, reading through this, it's hard not to feel Minsky and Keen by their absence. I had an exchange with Professor Keen on another matter, but mentioned that the most remarkable accomplishment was producing all these observations without ever citing you or Hyman Minsky.

He replied dryly, "Yes, it was rather, though there were implicit references galore to Hyman. Maybe it was a tactical decision by Borio."

We'll take up a few more from Borio's piece, plus the charts, in Friday's post at reMacroBaseline.com, but here is one, under the subhead "Essential Features that require modeling"

"The financial boom should not just precede the bust, but cause it."

Quite reminiscent of Minsky's injunction that a model which cannot explain depressions is not a very good model of a capitalist economy. The real business cycle genre and general equilibrium models cannot.

We cannot, we could not, afford to screw up the economy like Wall Street did with the fools gold rush, unless Wall Street was going to pay for it. In Borio's terms, the financial cycle got out of control, fomented in the regulatory hands-off environment. Wall Street told the world what the market was, promised big returns, generated immense private debt. When the crash came, they demonstrated their control of government by getting bailed out completely without having to restructure in any meaningful form or really change the practices that brought about the crisis. The Fed has become, in former SEC chair Arthur Levitt's term, "the banker's protective association." The Treasury failed to sponsor effective mortgage relief, and has essentially run interference for the big banks under Tim Geithner. Now we have stagnation as far as the eye can see.

Recovery is waiting. That debt still needs to be written down. There are debt to equity strategies, there are – what we called for at the beginning and still ask for – Home Owners Loan Corporation individual writedowns. But four years into the mess and it is no better, for some it is worse. Borio's graphs display that we are not near an inflection point.

Okay, there is more here with Borio, look for the link, and we'll expand in our post at REMacro.

Now on to the excruciating part. A sequence of interviews assaulted our ears the first week of 2013.

The first was Nobel Prize winner Edmund "Ned" Phelps, who gave a phlebotic talk as the first Herbert Stein memorial lecture at the National economists Club. (I wonder what the opposite of phlebotic is? Agile?) Herb Stein was an economist in the room in 1971 at Camp David with Richard Nixon when the U.S. simultaneously abandoned the gold standard and instituted wage and price controls. That worked better than Ned Phelps nonsense in this lecture, but it didn't work very well. Phelps is a Nobel Prize winner. Sometimes, and this is one of them, I note that the Nobel Prize in Economics does not exist. It is the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel. A much longer title, a much shorter list of accomplishments. Milton Friedman is there, John Kenneth Galbraith is not. Enough said.


Keynesianism is, of course, slandered by such a characterization as "the belief government can dial up... " Keynesianism is demand side economics, dosed with a trenchant distrust of casino markets and developed in the financial sphere by the work of Hyman Minsky. It is equally Keynesian to promote private investment as it is public spending. We've done that for decades.

Now we have an overabundance of private goods production facilities, excess capacity, and nobody wants to invest into slack demand. There is a dearth – dearth is the opposite of plethora in over elaborate language – a dearth of public goods, infrastructure, climate change mitigation, education, and yes, health and human services. Public investment here means value created and jobs and incomes and demand for private goods, which is the real way out. Not to mention returns for investors backed by real value increases and tax revenues.

I didn't play and I won't play Phelps rant on corporatism, which is his term for an ideology that is followed by this or that president or public leader. In fact, corporate power selects leaders who believe what it wants leaders to believe. Selects and trains. These are not the best ideas, they are the ideas with the strongest backing. The successful politician is the one who sees which side of the bread the butter is on, and makes his or her choice accordingly. Or a likely ideologue is chosen for advancement.

The same is true in economics. To think of economics as flow charts and trend lines and cute theories and not to appreciate that the framework itself is determined by how well it fits institutional needs is to miss half of economics. Economics, economists, politicians, credibility, access, influence, operate in an ecosystem determined by the power arrangements.

The point I am laboring to make is maybe simpler than I am making it. And it is a point I think we are all beginning to get, with degrees of disturbance varying from annoyance to alarm. It is not the thought that determines the politics, it is the politics that determines the thought. The whole theory of Neoliberalism has worked for the powerful, but has not worked at all for the society writ large. Trickle down continues to dominate not for any empirical support or ratification by history. Thus the greatest support to sound economics is a vibrant institution of democracy. Democracy itself as the equal representation of each individual. Hardly what we have today.

And on

So. Brought to you by REmacrobaseline.com and by Demand Side the book. Links online.

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