Minsky’s Financial Instability Hypothesis and Modern Economics

In my Far from Equilibrium Economics and Finance course, the first two articles I have my PhD students read are Friedrich von Hayek’s Economics and Knowledge (1937) and The Use of Knowledge in Society (1945) , von Hayek’s classic papers that describe a market economy as a solution to the division of knowledge problem. The third article I have them

Over- allocation of capital into the financial economy slows real economy growth rates andmisprices financial economy assets (artificially depressing savings yields). This mismatch, in turn, leads to financial crises as markets force adjustments between asset prices and the real economy cashflows that support them.

Noah Williams develops a simple model where adaptive learning by investors leads to recurrent booms and busts in asset prices. The model captures aspects of Minsky’s “financial instability hypothesis” in which periods of tranquility lead investors to increase their estimates of expected returns and reduce their estimates of return volatility. The c

Recessions, for Keynes, are caused by abrupt reductions in the aggregate level of spending. Keynes was not very good with grasping the concept of causality and logical explanations, so he never quite bothered to explain why it is that spending levels might suddenly drop, instead just coining another of his famous clumsy and utterly meaningless figu

Minsky’s big idea was that stability is destabilizing.