Except for a footnote here and there, no mention has been made to this point of the financial excesses of 2002–2007 that culminated in the late summer and fall of 2008 in the most severe global economic crisis since the Great Depression of the 1930s. We now turn to an analysis of the tumultuous events of those years, with emphasis on an extremely important characteristic of a monetary production economy that was not given adequate attention in the original text, namely, the interaction between money as a store of value and the mass phenomena of confidence and uncertainty. Establishing the importance of this interaction in conjunction with the real constraints imposed on asset values by the pool of fluid capital is the purpose of the next two chapters. However, the focus in these chapters is not on the detailed events of the crisis of 2007–2009 per se – as a number of excellent chronicles of this already exist – but rather on the development of an understanding of why financial crises are an inherent feature of an economy with money and why their occurrence is unlikely ever to be banished. As much as anything, the two chapters of this postscript represent a disquisition on Keynes’s distinction between risk and uncertainty and why this distinction is key to understanding why financial crises are an inherent feature of an economy with money.
The most popular explanation of the 2007–2008 financial meltdown was the failure of banks and other financial institutions to manage the new “risks” posed by financial innovations, specifically in the form of securities backed by sub-prime mortgages and the use of a variety of exotic financial plays and instruments to insure and hedge against default. What was collectively overlooked by financial institutions and regulators alike in the buildup to the crisis was that, while risk can reasonably be managed at a micro level, this is not the case at the macro level. Risk can be spread, but in the aggregate cannot ever be banished, particularly when it shades into and mixes with uncertainty. Keynes, in Chaps. 12 and 17 of the General Theory and (especially) in his defense of the General Theory in 1937 article in the Quarterly Journal of Economics, understood this well, but, because of the insistence in mainstream macroeconomic theory to treat uncertainty mathematically as risk, the importance of Keynes’s insights in accounting for financial crises has only been appreciated and utilized by maverick “Post-Keynesians” like Paul Davidson and the late Hyman Minsky.6 Increasingly, however, it is coming to be understood that the events of late summer and early fall of 2008 was in fact a “Minsky moment” – a time when the conjuncture of fear (from a collapse of confidence), uncertainty, and heightened liquidity preference morphed into a perfect financial storm.7
In the two chapters of this postscript
, the following themes will be center-stage:
A sharp distinction, as emphasized by Keynes (and Knight before him), between risk and uncertainty.
The existence of two aggregate markets in an economy: a goods market and an assets market, the dynamics of which are different.
Inherent instability of asset markets because of the interaction of confidence, uncertainty, and liquidity preference.
Asset values, both real and financial, derive from the pool of fluid capital, and which in the aggregate cannot increase faster than the rate of growth of income.
The interaction of confidence, uncertainty, and liquidity preference. Crises occur when confidence evaporates in the face of uncertainty, and there is a rush by asset holders to acquire money as a store of value.
The dangers of allowing new money creation to fuel speculation and wagering in asset markets. “Casinos with banks” have no place in asset markets.
Limiting money creation by the banking system to the funding of current production and the initial finance of investment in new produced means of production.