Finance is not just related to management techniques, procedures or product phenomena but involve institutions, behaviours and policies. In a monetary economy, accordingly John Maynard Keynes, money, as the institution that founds the exchange system, is a link between the present and the future. Finance fosters the capital accumulation process that develops through time and involves credit contracts. From the Keynesian tradition, Hyman Minsky, in the 1990s, argued that finance could be apprehended in a changing historical framework where arise tensions between regulation and the strategies of innovative profit-seeking banks. Financial innovations impact upon banks’ assets, liabilities, and capital. As a result, they could provoke sudden changes in market dynamics and financial stability. Indeed, in a context of uncertainty and speculation, the tensions between money as a public and as a private good overwhelms central banks’ actions, as we are seeing in the current bail-outs.
Considering the non-neutral role of finance through the business cycle, post-Keynesian economics emphasizes that financial instability relies on endogenous-driven fluctuations of credit and money supply. Minsky developed the financial instability hypothesis which states that financial crises happened to be recurrent in the capitalist economy after financial deregulation. In his own words, “..it is finance that acts as the, sometimes dampening, sometimes amplifying, governor of investment. As a result finance sets the pace of investment”. Under his perspective, in a monetary economy, credit relations, speculation and uncertainty are decisive to affect the investment path, leading to endogenous credit crunches. In other words, growing investment puts pressure on the demand for funding – a function of bankers’ expectation of future incomes. Increased investment and consumption leads to higher profit rates and present value of capital assets. Credit booms intensify while liquidity preference declines and, as a result, the resulting portfolios turn out to be extremely vulnerable to changes in interest rates, asset prices, credit strategies and monetary policies. When profits decline, as they inevitably do, credit and external sources of funding generally become restricted.
If we look at the current global economic downturn in terms of the lesson learned from Minsky, we can observe that outstanding features of this crisis emerged from the financial sector. The recent American financial crisis, for example, has revealed how banks encouraged speculative and Ponzi portfolios dependent not only on the future price of housing and securitized assets but also on the renewal of households’ lending operations.
As Walter Bagehot clearly said in the 19o century: banks trade money. In the current financial scenario, the interconnections between credit and capital markets foster the growth of banks’ and institutional investors’ assets. The other side of the “coin” shows higher corporate leverage and household debt. As a result, all society has been subordinated to trading private money.