headingfor «financial sustainability»: the signficanceof

© Prof. AnnaMariaVariato – Fall 2019 1

Macroeconomics Applications Università degli Studi di Bergamo a.a. 2019-2020

Heading for «financialsustainability»: the signficance of Minsky’s ELR then and now

Anna Maria VariatoUniversità degli Studi di Bergamo - DSAEMQ

25 ottobre 2019

Abstract

The Financial Instability Hypothesis and the concept of

Employer of Last Resort are independent pieces of

macroeconomic theory? This paper addresses the issue from

two perspectives. First it goes back to the original work of

Hyman Minsky and to his definitions. Then it focuses on the

theoretical link of the two ideas. Taking as a privileged focus ELR

(which is less popular than FIH), the thesis suggested in the

paper is that FIH and ELR are not independent, being in contrast

the pillars of a coherent and comprehensive macroeconomic

paradigm; this is valid both in Hyman Minsky and from the

purely theoretical point of view. Furthermore the underlying

methodological vision is holistic and (at the very least implicitly)

compatible with the understanding of capitalistic systems as

complex and adaptive. While addressing the corollary question

of intrinsic coherence of Minksy’s research programme, the

paper attempts to show why this reflection matters to the

solution of nowadays capitalism crisis, qualifying the emergent

economic paradigm as a «paradigm of financial sustainability».



Premise: About sudden Minsky’s

posthumous popularity

Question 1: FIH and ELR are

independent research topics

in Minsky?

Question 2: Which are the

relevant interdependencies (on

theoretical independence

between ELR and FIH?

Question 3: The significance

of ELR then and now: just a

minor issue in Minsky or the

key toward a new paradigm

of «financial sustainability»?

Conceptual map of the presentation

and suggested theses

Premise



Premise

Minsky's contribution was not significantly appreciated while the author was alive, but after 2007 he suddenly became "popular"

� The first channel of popularity was determined by the fact that many became supporters of the Financial Instability Hypothesis

Is it possible to state that finally the idea finance permanently affects real macroeconomic variables has become a standard?

� The second channel of popularity came later, as a result of the persistence of the crisis. Then the proponents of "job creation plans"have also appeared (often without attributing adequate paternity to the concept)

Is there any real tension towards the goal of tight full employment?

In dealing with the subject of the State as Employer of the Last Instance (Employer of Last Restort: ELR) some selective choices are made:

A) reference only to Minsky's contributions (which does not imply denying the importance of subsequent interpretations)

B) prevalent use of Minsky's contributions contained in the collection of posthumous essays "Ending Poverty, Job not Welfare" (2013) because:

B1) contain all the essential topics useful to the characterization of the concept

B2) cover an interesting historical period which can be subdivided into three phases (crucial for the argumentation that will follow

Methodologicalpremise



Phase 1: KeynesianMainstream

• AD eFP dominant, AD led inflation(if any), prevailing fixed exchangeratesi, restricted finance

• Minsky 1965, 1968, 1969, 1969bis

Phase 2: KeynesianMainstream Crisis

• AS led inflation, crisis of keynesian model, increasingcriticism (from monetarism to Lucas), towards fixedexchange ratesabandonment, restrictedfinance

• Minsky 1972, 1975

Phase 3: NeoclassicalMainstream

• AS and MP dominant, flexible exchange ratesi, unrestricted finance

• Minsky 1994

Minsky time and its relevance for our times

Phase 1:

• Minsky (1965) The role of employment policies

• (1968) Effects of changes in AD upon income distribution

• (1969) Policy and poverty

• (1969bis) Macroeconomics of a negative income tax

Phase 2:

• Minsky (1972) Whereeconomists and american economy went wrong

• (1975) The poverty of economic policy

Phase 3:

• Minsky (1994) Full employment and growthas targets of economicpolicy. Reflections on the limits of capitalism

Reference papers

A question we will try to give an answer:

the historical phases of the evolution of

Minsky thought are synchronized with

the evolution of macroecnomic thoery?



The connection between Employer of Last Resort and Financial InstabilityHypothesis(Have they been indpendent issues in Minsky’sresearch program?)

The Nature of capitalistic Systems (Minsky’s vision)

According to Minsky the nature of capitalist systems is:

� dynamic, incoherent, unstable;

� instability is the endogenous effect of the economic dynamics that involves complex (non-neutral) interactions between real and financial economics; micro dimension and macro dimension; institutions that act by changing the rules of the game; instability is generated in conditions of stability (the seed of instability lies inside stability)

� Minsky's instability is represented through stratified balance-sheet networks, giving rise to relationships of different nature/ solidity in terms of the ability to generate income and liquidity (i.e. the agents behave like banks, and are characterized in three types as covered units, speculative and Ponzi)



Why iscapitalismintrinsicallyunstable and fallacious?

The fallacy comes as the effect of two fundamental limits:

� Inability to maintain full employment permanently over time (contrary to what is assumed by the mainstream)

� Tendency of the financial component to trigger debt (deflationary) crises

These are limits that cannot be "eradicated" because capitalism is an organizational mode of society involving the assumption of liabilities (payment commitments due for sure) in advance with respect to the income flows (just expected) that (likely would) validate them in other words, as long as capitalism is “financial” in nature there is no way to make the problem disappear

Why iscapitalismintrinsicallyunstable and fallacious?

Capitalism is not a social organization always the same as itself: it evolves with increasing complexity (i.e. it cannot be understood except in dynamic terms)

Instability and inequalities are inherent in capitalism because capitalism is a society organization that cannot disregard finance ...

... which is very different from stating that finance is a useful support for improving the opportunities of an economic system



� Aggregate Demandvs. Aggregate Supply

� Real side of the economy vs. Monetary side (further sub-case money vs. finance)

� Cycle vs. Growth

Neutralitiesand reductions: dangeroussynthesis

� Aggregate Demandvs. Aggregate Supply

� Resource Allocation(efficiency) vs. Distribution (equality)

� Employment vs. Poverty

Dichotomies openlyrefused by Employer of Last Resort

Moreover ... mainstream macroeconomic approach and (not only) implies the emergence of some dichotomies, fundamental to the

representation and characterization of the system dynamics:

Dichotomies openlyrefused by Financial Instability Hypothesis

Evidence of the link betweenFIH & ELR

Therefore Minsky's position requires the adoption of a holistic perspective, which denying simultaneously all the commonly accepted dichotomies by standard macroeconomic theory, leads first of all to the methodological impossibility to face the issue of financial stability separately from that of full employment

in other words, the dichotomies mentioned in the previous slide do not represent sets of real features giving rise to the dynamics of existing economies; they can only occur in the abstract and under peculiar conditions (supposedly known by trained Economists)



Relevantinterdependenciesimplied by the Employer of Last Resort

Direct consequencesof the rejection of standard dichotomies

• Opportunity to reduce unemployment and increase employment through fiscal and monetary policies (this is a structural reduction, not a temporary one)

Aggregate Demand-Aggregate Supply

• Possibility of reducing poverty through increased employment (this is a social effect, not purely individual; in fact we are not talking about reducing unemployment)

Employment-Poverty

• Possibility to pursue at the same time efficient allocation and equalization of income distribution (starting from the objective of equalization of income, therefore from distribution)

Allocation – Distribution



On the possibility to reach the policy goals implied by the holisticmodel

� Are these possibilities easy to implement?

� Is it enough to recognize that the model is different and have a good intuition to be almost certain of the success of the policies?

� Is any occupational objective sufficient to generate the triggering of the virtuous mechanisms mentioned above?

According to Minsky the answer is negative to all the above questions!

� Not only must the policies be well structured, timely and well received (a more restrictive condition than credibility)

� The objective on which to focus is tight full employment (which implies the identification of an "narrow band" evolutionary path)

Evidence of the link betweenELR and «war on poverty»

What happens if any economic policy authority does not commit to the goal of tight full employment?

Not only, evidently, he risks not generating the conditions for full employment stable over time

For sure he loses the possibility of solving the problem of poverty (both relative and absolute)

Thesis 1. According to Minsky, the failure of conventional policies to achieve the objective of defeating poverty is due to the lack of consideration of the close link between poverty and full employment



Questionsraised by ELR

1. What is the Employer of Last Resort?

2. Is the ELR still relevant to present days?

3. How does it work?

4. What kind of intellectualimplications does come from the idea of ELR?

Reasons of the ineffectiveness of policies targeted at “war on poverty”

Paradoxically, the fight against poverty is

often pursued through three types of

intervention:

O Monetary transfers

O Training and re-training courses

O Attempts to stimulate AD through tax

reductions which are considered effective

instruments in stimulating I or modifying the

distribution of income

Thesis 2. According to Minsky ALL these

measures are doomed to failure.

The correct strategy would instead be to

engage in the pursuit of tight full

employment.



What is the Employer of Last Resort?

«Last Resort» Institutionsand «market clearing»

In order to be able to define what (kind of institution) is the employer of last resort, we must first reflect on the ability of a capitalist system to achieve full employment

Clearly, the very notion of employer of last resort involves an elementary certainty: if the intervention of an institution of "last resort" is necessary, it means that the market has not been able to generate coherence between supply and demand;

� specifically in the labor market, this is shows up through unemployment (which in a Keynesian perspective has an involuntary nature)



Strategiesmeant at full employment

To eliminate unemployment:

� Wage flexibility and automatic adjustment [evergreen mainstream]

� Qualitative/quantitative adjustment: supply side policies: training of workers (mismatch heterogeneity). Institutions spend today to make workers employable tomorrow [current mainstream]

� "Targeted" quantitative adjustment: employer of last resort (heterogeneous workers because of intrinsic qualities). The employer of last resort hires the unemployed immediately; spends today to occupy them today with the skills/ competences they have [heterodox].

The role of ELR

Thesis 3. The market is not able to reach

tight full employment. Public intervention is

needed in the form of direct job creation (the

examples, being historically specific, recall

the policies pursued in the New Deal)

the problem: defining the concept of

tight full employment (and indicating the

unemployment rate consistent with it).



Definition of «Tight Full Employment»

Wheredo we want to go?

That is

A particular kind of macroeconomicequilibrium:

«The single most important step toward endingpoverty in America would be the achieving and sustaining of tight full employment. Tight full employment exists when over a broad cross-section of occupation, industries, and locations, employers at going wages and salaries, wouldprefer to employ more workers than they in factdo».

(Minsky, original 1965, 2013 p. 3)

Is the ELR still relevant to presentdays?



ELR and New Deal

Minsky recalls Roosevelt policies:

a) WPA (Work Progress Administration)

b) CCC (Civilian Conservative Corps)

c) NYA (National Youth Administration)

Should we consider the same kind of programs

even today?

It would be quite anachronistic…

What does still survive, anyway?

The idea that the intervention on job creation is neither

generic or slavish, rather it is an articulated program of

interventions addressed to specific sectors or segments of

the labor market ...

Pros Cons

Moreover, in the 1960s at least the "war on poverty" was discussed as an explicit goal

of economic policy. Today it is not (at most a talk about absolute and “extreme” poverty)

Timeliness of the Employer of Last Resort



Who is going to benefit from the presence of the ELR?

Thesis 4. Income from work is a

fundamental pillar of individual

dignity

Thesis 5. The ELR is also a

channel through which public

legitimacy is strengthened

Elimination of poverty due to unemployment

Relevance of the concept of family income

The distribution of

income naturally

moves towards

lower inequality

Reducing the emphasis on investment

would contribute to the reduction

of financial fragility

More degrees of freedom for

economic policy makers

Benefits coming from direct job creation



Expected Objections

Inflation risk

BP Sustainability

Public DebtSustainability

How does the ELR work?



Mister NO…

Minsky and “conventional” labor policies

• No because of «gestation time» toolong

Active labourpolicies?

• Do not solve the problem of social marginality

MonetaryTransferspolicies?

• Articulated explanationof the negative attitudetowards this measure

Policy addressedtowards high tech

investment?

Explanation: Criticism towards

active labourpolicies (and

structuralists)

Indeed they implicitly consider:

� Work as homogeneous and fluid (whereas it is not easy to train a worker, given that the process is expensive both in economic and temporal terms)

� Moreover they imagine high degree of substitution between different workers and between inputs (or production techniques), but obviously these possibilities of substitution are limited.



Explanation: What kind of fiscal

policy? Higher G or lower

TA

� Close to full employment the two levers are substantially similar, but not far from full employment (especially if part of the residual unemployment derives from structural change);

� While generalized tax cuts have limited power to target specific occupations, public spending can be targeted (as demonstrated historically by the Roosvelt’s work plans)

Explanation: Criticism against policies targeted towards high tech I (as a measure for full employment)

High technology investment support policies? No

because:

1. Tax incentives exacerbate the inequality of workers

and savers

2. Investment income encourages opulent consumption

and imitative behavior from poorer f people (demand

led inflation risk)

3. The inequality between workers is accentuated

(because the incentives are sectorial)

4. Financial fragility increase (as the policy implies a

natural incentive to decrease safety margins the tax cut increases the confidence of entrepreneurs,

but also the confidence of external lenders who rely

on the persistence of fiscal policy)



What kind of intellectualimplications come from the idea of ELR?

Challenges of phase 1:

mainly definitionsof targets and phenomena

also evidence of an impicit visionwhereinterdependenciesmatter

� Which target unemployment rate: like atrazine in the water? (Minsky, 1965)

� First focusing on poor workers then dealing with re-training (1965)

� Income from work: essential social dimension (individual identity and inclusion of the worker’s family) (1965)

� Relative poverty is more ambiguous concept than absolute poverty (a question leading to the recognition of the issue of impoverishment) (1969)

� Economic policy cannot be improvised and need pragmatism: good intentions are not enough (1969)

� Explicit characterization of the dynamic link between poverty, financial instability and economic policy (1969)



Challeges of phase 2:

what happensduring crisis

� The economic crisis is reflected in the crisis of the theoretical macroeconomic paradigm (1972)

� The paradigm shift occurs when simultaneously the weakness of the existing model is combined with a real problem (but there is a "valid" alternative) (1972)

� The most important limitation that characterizes macroeconomists is the failure to recognize the substantial role of finance in capitalist dynamics (1972)

� Power and distribution should be the key words of the macroeconomist game (1972)

� Attention to distribution leads to an increased attention towards «green» and «cooperation» (1975)

� Concentrations and oligopolies are harmful and this obviously applies to banking concentrations too (1975)

Phase 3 challenges:

a new model for capitalism?

a battle lostalready or a match still to engage with?

� Resonance between 1933 and 1993: Clinton as Roosevelt? (1994)

� Modern capitalism enters a crisis more easily than in the past, not surprisingly (1994)

� The target of tight full employment is not implemented substantially due to lack of political will (sloth, ignorance, individualism) ... and in so doing we lose a possibility of endogenous stabilization

� Capitalism transformed itself (not in the direction desired, also because the policy choices that were made went in the opposite direction suggested by Minsky) (1994)



In order to pursuemacroeconomicstabilization (as far as possible)

� In order to be successful, economic policy design should provide simultaneouscoordination among three levers:

� Direct job creation (ELR)

� Proper AD management (Big Government)

� Financial Regulation (LLR)

The design and the sequence of economicpolicy

1. Commitment to tight full employment (just to simplify, pay attention to the issue of work) [long term]

2. Implementation of adequate policies to address aggregate demand (fiscal policy, with a preference for public spending over taxation and transfer) [medium term]

3. Implementation of stabilization policy in the financial sector, through the presence of a lender of last resort (which legitimates supervision and regulation monetary policy extensively understood) [medium term]

4. Monetary policy (in strict sense) comes last and is consistent with previous steps [short term]



Phase 1: KeynesianMainstream

• "Golden" era: the most favorable context for the reception of Minskian ideas

• Minsky plays on the definition of the primary objective of PE, on its implementation methods and on the link with income distribution

Phase 2: KeynesianMainstream Crisis

• There is an economic crisis, but it is above all on the intellectual crisis that Minsky focuses this phase of his research

• He understands that the most serious limitation is the lack of an idea of substantial finance and he begins to concentrate mostly on the Financial Instability Hypothesis

Phase 3: NeoclassicalMainstream

• Capitalism as a complex adaptive system, always poised between stability and instability, but endowed with a resilience that historically other systems have not demonstrated

• This is why it is worthwhile to face the challenge of amending capitalism

Minsky time and his intellectual coherence

Conclusion

«Long ago Abba Lerner summed up the view put here arguing that success brings into play market developments that breed failure. The problem of discovering and putting in place institutions of a successful capitalism cannot be solved once and for all. Success is transitory. Future generationswill have to confront later version of the problem we now face: to turn a failingcapitalism into a succesful capitalism».

Hyman Minsky (2013 p. 177-178, original paper 1994)



Conclusion

Minsky believed that the war that an economist should fight was the war on poverty ...

... the poverty of which he spoke was evidently that of material and moral deprivation

And this is a battle that not all economists are able to face directly, while sharing its relevance

… However as an intellectual he has tirelessly fought a war no less important, the one against the poverty of ideas. He left us a fruitful legacy and this attests to his personal and lasting victory.

headingfor «financial sustainability»: the signficanceof

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