Monetary Policy and Financial StructureThis program explores the structure of markets and institutions operating in the financial sector. Research builds on the work of the late Distinguished Scholar Hyman P. Minsky—notably, his financial instability hypothesis—and explores the institutional, regulatory, and market arrangements that contribute to financial instability. Research also examines policies—such as changes to the regulatory structure and the development of new types of institutions—necessary to contain instability.
Recent research has concentrated on the structure of financial markets and institutions, with the aim of determining whether financial systems are still subject to the risk of failing. Issues explored include the extent to which domestic and global economic events (such as the crises in Asia and Latin America) coincide with the types of instabilities Minsky describes, and involve analyses of his policy recommendations for alleviating instability and other economic problems.
Other subjects covered include the distributional effects of monetary policy, central banking and structural issues related to the European Monetary Union, and the role of finance in small business investment.
Working Paper No. 818 | October 2014
During the past two decades of economic stagnation and persistent deflation in Japan, chronic fiscal deficits have led to elevated and rising ratios of government debt to nominal GDP. Nevertheless, long-term Japanese government bonds’ (JGBs) nominal yields initially declined and have stayed remarkably low and stable since then. This is contrary to the received wisdom of the existing literature, which holds that higher government deficits and indebtedness shall exert upward pressures on government bonds’ nominal yields. This paper seeks to understand the determinants of JGBs’ nominal yields. It examines the relationship between JGBs’ nominal yields and short-term interest rates and other relevant factors, such as low inflation and persistent deflationary pressures and tepid growth. Low short-term interest rates, induced by monetary policy, have been the main reason for JGBs’ low nominal yields. It is also argued that Japan has monetary sovereignty, which gives the government of Japan the ability to meet its debt obligations. It enables the Bank of Japan to exert downward pressure on JGBs’ nominal yields by allowing it to keep short-term interest rates low and to use other tools of monetary policy. The argument that current short-term interest rates and monetary policy are the primary drivers of long-term interest rates follows Keynes’s (1930) insights.Download:Associated Program:Author(s):Tanweer Akram Anupam DasRelated Topic(s):
Working Paper No. 817 | September 2014
The Reemergence of Liquidity Preference and Animal Spirits in the Post-Keynesian Theory of Capital Markets
Since the beginning of the fall of monetarism in the mid-1980s, mainstream macroeconomics has incorporated many of the principles of post-Keynesian endogenous money theory. This paper argues that the most important critical component of post-Keynesian monetary theory today is its rejection of the “natural rate of interest.” By examining the hidden assumptions of the loanable funds doctrine as it was modified in light of the idea of a natural rate of interest—specifically, its implicit reliance on an “efficient markets hypothesis” view of capital markets—this paper seeks to show that the mainstream view of capital markets is completely at odds with the world of fundamental uncertainty addressed by post-Keynesian economists, a world in which Keynesian liquidity preference and animal spirits rule the roost. This perspective also allows us to shed new light on the debate that has sprung up around the work of Hyman Minsky, calling into question to what extent he rejected the loanable funds view of financial markets. When Minsky’s theories are examined against the backdrop of the natural rate of interest version of the loanable funds theory, it quickly becomes clear that Minsky does not fall into the loanable funds camp.Download:Associated Program:Author(s):Philip PilkingtonRelated Topic(s):
Public Policy Brief No. 135 | August 2014Contrary to German chancellor Angela Merkel’s recent claim, the euro crisis is not nearly over but remains unresolved, leaving the eurozone extraordinarily vulnerable to renewed stresses. In fact, as the reforms agreed to so far have failed to turn the flawed and dysfunctional euro regime into a viable one, the current calm in financial markets is deceiving, and unlikely to last. The euro regime’s essential flaw and ultimate source of vulnerability is the decoupling of central bank and treasury institutions in the euro currency union. In this public policy brief, Research Associate Jörg Bibow proposes a Euro Treasury scheme to properly fix the regime and resolve the euro crisis. The Euro Treasury would establish the treasury–central bank axis of power that exists at the center of control in sovereign states. Since the eurozone is not actually a sovereign state, the proposed treasury is specifically designed not to be a transfer union; no mutualization of existing national public debts is involved either. The Euro Treasury would be the means to pool future eurozone public investment spending, funded by proper eurozone treasury securities, and benefits and contributions would be shared across the currency union based on members’ GDP shares. The Euro Treasury would not only heal the euro’s potentially fatal birth defects but also provide the needed stimulus to end the crisis in the eurozone.Download:Associated Program:Author(s):Related Topic(s):
Conference Proceedings | August 2014This conference was organized as part of the Levy Institute’s international research agenda and in conjunction with the Ford Foundation Project on Financial Instability, which draws on Hyman Minsky’s extensive work on the structure of financial systems to ensure stability, and the role of government in achieving a growing and equitable economy.
Among the key topics addressed: the challenges to global growth and employment posed by the continuing eurozone debt crisis; the impact of austerity on output and employment; the ramifications of the credit crunch for economic and financial markets; the larger implications of government deficits and debt crises for US and European economic policies; and central bank independence and financial reform.Download:Associated Program(s):Region(s):United States, Europe
Working Paper No. 802 | May 2014
Policy Challenges for Central Banks
Central banks responded with exceptional liquidity support during the financial crisis to prevent a systemic meltdown. They broadened their tool kit and extended liquidity support to nonbanks and key financial markets. Many want central banks to embrace this expanded role as “market maker of last resort” going forward. This would provide a liquidity backstop for systemically important markets and the shadow banking system that is deeply integrated with these markets. But how much liquidity support can central banks provide to the shadow banking system without risking their balance sheets? I discuss the expanding role of the shadow banking sector and the key drivers behind its growing importance. There are close parallels between the growth of shadow banking before the recent financial crisis and earlier financial crises, with rapid growth in near monies as a common feature. This ebb and flow of shadow-banking-type liabilities are indeed an ingrained part of our advanced financial system. We need to reflect and consider whether official sector liquidity should be mobilized to stem a future breakdown in private shadow banking markets. Central banks should be especially concerned about providing liquidity support to financial markets without any form of structural reform. It would indeed be ironic if central banks were to declare victory in the fight against too-big-to-fail institutions, just to end up bankrolling too-big-to-fail financial markets.Download:Associated Program:Author(s):Related Topic(s):
Working Paper No. 801 | May 2014
Debt, Finance, and Distributive Politics under a Kalecki-Goodwin-Minsky SFC Framework
This paper describes the political economy of shadow banking and how it relates to the dramatic institutional changes experienced by global capitalism over past 100 years. We suggest that the dynamics of shadow banking rest on the distributive tension between workers and firms. Politics wedge the operation of the shadow financial system as government policy internalizes, guides, and participates in dealings mediated by financial intermediaries. We propose a broad theoretical overview to formalize a stock-flow consistent (SFC) political economy model of shadow banking (stylized around the operation of money market mutual funds, or MMMFs). Preliminary simulations suggest that distributive dynamics indeed drive and provide a nest for the dynamics of shadow banking.Download:Associated Program(s):Author(s):Eloy Fisher Javier López BernardoRelated Topic(s):Debt and public finance Kaleckian macrodynamics Political cycles Political economy of finance Political macroeconomic models Shadow banking Stock-flow consistent (SFC) modelingRegion(s):United States
In the Media | May 2014
By Barry EliasMoneyNews, May 8, 2014. All Rights Reserved.
Future rises in income inequality will lead to a prolonged period of anemic economic growth and high unemployment.
Income for the bottom 90 percent of households has stagnated during the past 35 years. Strong economic activity in the 1990s and 2000s was largely generated by consumption that was financed by borrowing. The resulting high levels of debt relative to income precipitated the financial and economic crisis.
Since 2008, the bottom 90 percent of households have deleveraged, thereby reducing their debt-to-disposable-income ratio. This ratio for the top 10 percent has remained relatively stable. Should this deleveraging trend continue, by 2017, economic growth will be 1.7 percentage points lower than the post-recession period, and unemployment will rise 1.3 percentage points to 7.6 percent, according to the Levy Economics Institute.
Future economic growth is unlikely to arise from the activities of the top 10 percent of households. Their consumption levels tend to remain relatively stable, and their investments are driven by short-term arbitrage opportunities of financial assets — not long-term direct investment in businesses that generate strong employment and income growth.
Coupled with weak foreign demand and restrictive government fiscal policy, future economic growth may be driven by domestic deficits. This burden will fall primarily on the bottom 90 percent in the private sector and exacerbate income disparity. However, as debt-to-income levels rise, a financial and economic crisis becomes more probable.
The only viable solution to this economic conundrum is greater income equality.
Working Paper No. 799 | May 2014
A Financial View
This paper develops the framework of analysis of monetary systems put together by authors such as Macleod, Keynes, Innes, and Knapp. This framework does not focus on the functions performed by an object but rather on its financial characteristics. Anything issued by anybody can be a monetary instrument and any type of material can be used to make a monetary instrument, as these are unimportant determinants of what a monetary instrument is. What matters is the existence of specific financial characteristics. These characteristics lead to a stable nominal value (parity) in the proper financial environment. This framework of analysis leads the researcher to study how the fair value of a monetary instrument changes and how that change differs from changes in the value of the unit of account. It also provides a road map to understanding monetary history and why monetary instruments are held.Download:Associated Program:Author(s):Related Topic(s):
In the Media | April 2014
By Robert FeinbergMoneyNews, April 30, 2014. All Rights Reserved.
Jason Furman, the brilliant economist who chairs the Council of Economic Advisers, spoke recently at the 23rd Annual Hyman Minsky Conference, sponsored by the Levy Economics Institute of Bard College.
The title of Furman's presentation was "Whatever Happened to the Great Moderation?" He argued that with the right economic policies, as advocated by the administration, this mythical Great Moderation could be restored.
I suspect a priori that the Great Moderation was a result of official policies that suppressed normal adjustments that should have taken place in the economy, for example, by neglecting prudential and consumer protection regulation of "too big to fail" banks, so that when the 2008 episode of the permanent financial crisis erupted, it was much more costly and disruptive than it would otherwise have been.
Ironically, after having written this sentence, I found that a similar suggestion had been made by a famous economist — none other than Hyman Minsky. The very informative Wikipedia entry on the Great Moderation also contains a reference to a 2003 speech by University of Chicago economist Robert Lucas as president of the American Economic Association celebrating the idea that the profession had practically solved "the central problem depression prevention."
Furman defined the Great Moderation as the reduction in the volatility of a wide range of economic variables, and to the associated increase in the longevity of economic expansions and reduction in the frequency and severity of economic contractions. Among the economists cited as having contributed research on this subject are former Federal Reserve Chairman Ben Bernanke (2004) and Douglas Elmendorf (2006), currently director of the Congressional Budget Office.
Furman dated the beginning of the debate over the Great Moderation to the early 1990s. To his credit, Furman took time out to question, as I do, whether "there ever was a 'Great Moderation,' let alone that it has returned and rendered further policy steps unnecessary."
Furman dismissed the idea that policy responses are not needed, because recessions serve a purpose and little can be done, on the ground that while this might be true in "normal times," these times are characterized by a large shortfall in output, and policy responses are needed. He seems not to have considered that maybe these are "normal times," and that the slow growth and shortfall in output are due to previous misguided policies.
Instead, he offered some new misguided policies, a lot of them, under what he calls "The Unfinished Agenda for Economic Stability." This is ironic, because it seems that Minsky himself was highly skeptical that "economic stability" could be achieved by policy.
It almost becomes amusing to consider the grab bag of measures Furman offers as holding out hope of averting or coping with future downturns. He claimed that Obamacare will have a counter-cyclical effect, a notion that is heatedly disputed, and he also pointed to increased progressivity in taxation. Reducing inequality is highly speculative as a counter-cyclical measure, but maybe they can start with salaries of reckless bank executives and their feckless regulators.
Finally, Furman pointed to implementation of Dodd-Frank and Housing and Finance Reform, which are laughable, because neither is likely to happen, and they might not produce the effects he expects even if they do.
As a political document, the speech represents how desperate the administration is to establish a positive legacy as President Obama's popularity declines.
(Archived video can be found here.)