Minsky moments

Comparing the situations of the United States and China, where the outgoing central bank governor recently warned of the fragility of China’s financial sector, Wray makes the case that the United State is far more likely to “win” the race to the next “Minsky moment.” Instead of sustainable growth, we have “bubble-ized” our economy on the back of an overgrown financial sector—and to make matters worse, he concludes, US policymakers are ill-prepared to deal with the coming crisis.

When financial market participants differ in their risk-taking, good shock realizations increase the capital of high risk-takers more than that of low risk-takers. This raises the fraction of wealth controlled by high risk-takers and, under incomplete markets, increases aggregate risk-taking. The opposite conclusions apply for bad shocks. As a result, aggregate risk-taking is pro-cyclical – in a sense, booms sow the seeds of the next crisis.