Financialisation Issues
in a Post-Keynesian
Stock-Flow Consistent Model
Marc Lavoie
University of Ottawa
(based on work with Wynne Godley)
Paper is…
 Based on Chapter 11 of a book
written with Wynne Godley
 Monetary Economics: An
Integrated Approach to Credit,
Money, Income, Production and
Wealth
 Macmillan/Palgrave 2007
The model …
 Can be found as an E-views file on
the web site:
 gennaro.zezza.it/software/models
Outline of the presentation
 SFC features
 Main features of the model
 Experiments (simulations): changing
some parameter values linked to
financialisation issues: charts
SFC ?
 All sectors face budget constraints
 Financial interdependence between
sectors
 Stock variables arise from flows and
capital appreciation: historical time
 There exist stock-flow norms (which
may change through time)
 People react and adjust to
disequilibria
SFC of some form in PKE and
other heterodox economics




Davidson, Minsky
Eichner 1985
Peter Skott 1989
Institutionalists: Copeland 1947
The buffer principle:
All sectors need a buffer that
provide an adjustment factor
 Firms: inventories and bank loans
 Households: holdings of money
deposits
 Government: bills issued
 Central bank: residual purchaser of
bills or advances made to private
banks
 Banks: bills held or advances
obtained from central bank
Objective
 To simulate a complicated model that
entertains several realistic features
 All blocks (sectors) are well developed
 Growth model
 Where demand is constrained in the long
run by the growth rate of the supply side
(labour productivity)
 Here we look at issues tied to
financialisation
Table : The balance sheet of the Chapter 11 growth model
Households
Firms
Govt
Central
bank
Σ
Banks
Inventories
+IN
+IN
Fixed
capital
+K
+K
H
HPM
+Hh
Money
+M
Bills
+Bh
B
Bonds
+BL.pbL
BL.pBL
Loans
Lh
Lf
Equities
+e.pe
e.pe
Bank capital
+OFb
Balance
Vh
Vf
Vg
Σ
0
0
0
+Bcb
+Hb
0

M
0
+Bb
0
0
+L
0
0
OFb
0
0
0
(IN+K)
0
0
0
Firms
 Follow normal cost pricing procedures, based
on historical costs
 Mark-up depends on planned entrepreneurial
profits, which depend on investment
expenditures
 Firms borrow mainly to fund inventories
 Firms issue shares to finance investment not
funded through retained earnings
 The rate of accumulation depends on capacity
utilization and the real interest rate
 The main drawback is that firms do not hold
financial assets
Inflation:
a kind of conflictual inflation
 Workers are targeting a real wage,
based on productivity growth and
employment rates.
 Firms are looking for a profit margin
that will finance a given proportion
of their investments.
 The inflation rate is proportional to
the discrepancy between the actual
and the target real wage.
 The Phillips curve is flat within a
certain employment range.
Households
 Consumption on the basis of
 past real wealth
 current disposable income net of
interest payments on loans, plus net
additions to outstanding loans
 Gross new loans is a fraction of
personal income
 Standard portfolio equations with
adding-up conditions
Government and the central
bank
 Pure government expenditures
(excluding debt servicing) grow at a
rate equal to the growth rate of
labour productivity. This is the main
exogenous variable.
 Cash, bank reserves, bills and bonds
are all supplied on demand
(monetization is fully demand-led)
More realistic PK bank
 Banks have own funds (net worth)
 Banks have retained earnings
 Banks make loans to firms and to
consumers
 Banks face a BIS-imposed capital
adequacy ratio (CAR) – the Cooke ratio
(own funds to loans ratio)
 Banks have a target liquidity ratio: bills
to deposits ratio
 (both target ratios must be achieved in the
medium run
The determination of interest
rates
 The (nominal) Treasury bill rate is set
exogenously by the central bank.
 The bond rate is also set exogenously (or
it can be made endogenous, if its supply
is set in relative terms)
 The deposit rate relative to the bill rate is
endogenous, set by banks, based on a
bank reaction function that depends on
the liquidity preference of banks
 The lending rate is marked up over the
deposit rate, to insure bank profits and
fulfil BIS rules
Experiments
 Increase the proportion of gross investment
financed by retained earnings (i.e. diminish
equity issues)
 Increase the proportion of profits
distributed as dividends
 Increase the desire to hold equities
 Increase the ratio of gross new loans to
personal income
 Increase the default rate on loans