Debt, Inequality and Crisis
Steve Keen
Kingston University London
IDEAeconomics
Minsky Open Source System Dynamics
www.debtdeflation.com/blogs
When the economic history of our epoch is written…
• There will be at least 3 themes:
– Period of apparently increasing tranquillity (“Great Moderation”)
– Sudden transition crisis (“Great Recession”)
– Rising inequality
• There should be (at least) a 4th:
– Rising private debt
• Because all three go together and explain each other
• Mainstream (Neoclassical) macro omits both inequality & debt
• According to its indicators
– Period of stable growth a permanent improvement in economy
– Private debt macroeconomically irrelevant
– Inequality simply a product of relative productivity
• No longer maintained post-Piketty
– But explanation limited to “r>g”
• Statistical rather than causal explanation
– “Great Moderation” a sign of policy success…
Mystery confluence: Great Moderation & Recession
• “the past two decades has seen not only significant improvements in
economic growth and productivity but also a marked reduction in economic
volatility… dubbed ‘the Great Moderation’.” (Bernanke 2004)
The "Great Moderation"
16
Crisis
15
14
13
12
Percent; Percent per year
11
10
9
8
7
6
5
4
3
2
1
0
0
1
2
3
4
1980
Unemployment
Inflation
1984
1988
1992
1996
2000
2004
www.debtdeflation.com/blogs
2008
2012
2016
Mystery confluence: Great Moderation & Recession
• Post-crisis, see Moderation & Recession as 2 separate phenomena
– 1st due to good economic policy, 2nd to exogenous shock…
• “Standard macroeconomic models, such as the workhorse newKeynesian model, did not predict the crisis, nor did they incorporate
very easily the effects of financial instability.
• Do these failures of standard macroeconomic models mean that they
are irrelevant or at least significantly flawed?
• I think the answer is a qualified no. Economic models are useful only in
the context for which they are designed. Most of the time, including
during recessions, serious financial instability is not an issue.
• The standard models were designed for these non-crisis periods, and
they have proven quite useful in that context.
• Notably, they were part of the intellectual framework that helped
deliver low inflation and macroeconomic stability in most industrial
countries during the two decades that began in the mid-1980s.”
– Bernanke 2010 “Implications of the Financial Crisis for Economics”
• What utter, self-serving, bollocks!
Behaviorism vs Structuralism
• Neoclassical DSGE models failed to anticipate crisis
• Models use “behavior of rational agents” as basis of modeling
– Since “Lucas Critique”, have asserted must capture “deep
parameters” of individual behaviour for model to be valid
• Post Keynesians have used “structure of economy” as basis
– “Behaviour under fundamental uncertainty” considered
– But behavioural concepts secondary to economic structure
• My work combines this tradition with complex systems approach
– Essence of complex systems: “simple system, complex behavior”
– Sophisticated agent behaviour unnecessary to capture essential
features of last 30 years of macroeconomics that Neoclassical
models completely missed
• Period of apparent diminishing cycles in employment & inflation
• Rising private debt
• Rising inequality as wages share falls, bankers’ share rises
• Eventual crisis
Simple rules, complex behaviour
• My 1995 Minsky model can be stated as strict identities:
• The employment rate will rise if economic growth exceeds the
sum of growth in labor productivity and population growth;
• The wages share of output will rise if wage demands exceed the
growth in labor productivity; and
• The private debt to GDP ratio will rise if private debt growth
exceeds the rate of economic growth
– In equations:
1 d


Y




R
1
d   YR
YR 
YR
 


L
N

 
YR dt
 YR
 dt   a


  wR  
  L N
1 d
a


a

1
d  wR 



wR  L YR dt  a 
1 d
d
 D YR 
D YR dt

d  D  YR
1 d
D
D
D dt
1 d
wR 
wR
wR dt
a dt
1 d

N
N dt
Simple rules, complex behaviour
• Equations are simply expansions of definitions
• When put into simplest possible model
– Generates both “Great Moderation” & Great Recession
– Rising private debt
– Rising inequality
• Simplest possible model:
– Output YR a linear function of capital KR
– Investment IR a linear function of profit rate pr & depreciation
– Employment a linear function of output
– Wage change a linear function of employment rate
– Change in debt equal to investment minus profits
– No government sector, no Ponzi Finance, no bankruptcy
YR  W  r  D
KR
KR  Ifn p r    KR Ifn p r   p S  p r  p N  p r 
YR 
v  YR
v
YR
d
L
W  wR  L wR  w fn    w fn     S     N  D  I  
a
dt
Simple rules, complex behaviour
• Generates deceptively simple model:

p S  p r  p N 
      KR 
v
  S     N   
p  p

d
S
r
 p N   v  p r   p S  p r  p N 


  KR 
d
v


• 3 variables • 9 parameters (including r) • But complex behaviour…
• Equilibria not the same as variables
– Variables employment rate, debt ratio, wages share of output
– Equilibria employment rate, debt ratio, profit share of output
• Wages share a residual directly negatively related to debt
service share (r.d)
– Workers pay for rising debt via lower income share
– Even without borrowing by workers in the model…
Simple rules, complex behaviour
• “Good” equilibrium is:
p rE 
E 
v       KR 

 N
S
pS
 pN
• Lower growth means higher
equilibrium debt level
• And makes equilibrium more unstable
v       KR 


pN 
 v       KR   v 
pS


dE 
 
• Two possible outcomes depending on parameter values
– Equilibrium stable
• Cyclical convergence to positive employment rate, profit share,
finite debt ratio over time…
Simple rules, complex behaviour
• Not what we have experienced in the real world
Stable system (Linear functions)
Employment
Rate
Profit
Rate
Private
Debt
Ratio
ofreturn
GDP
Percent Percent
ofPercent
population
employed
66
15
80
64
60
62
10
40
60
20
585
0
56
 54
200
00
50
50
100
100
www.debtdeflation.com/blogs
Stable
150
200
Simple rules, complex behaviour
• Equilibrium unstable: rising debt, rising inequality, moderation then
breakdown:
• Similar to what we have experienced in the real world…
Unstable system (Linear functions)
Private
Employment
Debt
Ratio
Rate
Profit
Rate
Percent of GDP
returnemployed
Percent ofPercent
population
400
70
15
Falling then rising cycles
300
65
10
200
60
5
100
55
0
0
 100
50
5
0
20
40
60
www.debtdeflation.com/blogs
Unstable
80
100
Simple rules, complex behaviour
• Model follows Pomeau-Manneville “inverse-tangent route to chaos”
• First seen in transition from laminar to turbulent flow in fluids
• Modeled as Poincare Map in y-coordinate of Lorenz system where
system bounces between a curve and a line:
• Dynamics of system
determined by whether
line intersects curve
• For intersection
– No fluid turbulence
– Economic stability
• For non-intersection
– Turbulence
– Instability preceded
by diminishing cycles
Simple rules, complex behaviour
•
•
•
•
Dynamics of system determined by whether line intersects curve
If it does, stable equilibrium; cycles diminish to zero
If it doesn’t,
Unstable
equilibrium
• Cycles diminish
at first and then
increase
• “Great
Moderation”
followed by
“Great
Recession”
• Not 2 separate
events but two
stages in the
same process…
Unstable system (Linear functions)
Unstable
Simple rules, complex behaviour
• Weakness of model: even-handed nature of crisis—booms & busts
• Real world experience: apparent moderation then bust only
• Generated by generalizing earlier identities to include inflation:
– The employment rate will rise if real economic growth exceeds the
sum of population growth and growth in labor productivity;
– The wages share of output will rise if money wage demands exceed
the sum of inflation and growth in labor productivity; and
– The private debt to GDP ratio will rise if the rate of growth of private
debt exceeds the sum of inflation plus the rate of economic growth.
• Additional equations needed for
– Rate of inflation
– Variable nominal interest rate
– Simplest relationships used again:
• Lagged convergence to equilibrium prices in monetary economy
• Lagged inflation premium to base interest rate if inflation > 0
Simple rules, complex behaviour
• Inflation formula derived from monetary flow logic
1 
 
• Depends on wages share of output & firms’ markup…P    1 


1

s

p s  1   t  r t  d t
P 
r  t   if  inflagnominal
inflag  t  , rrate
 t   0, rb interest
Inflation-adjusted
b
1st
1 
1

inf
t


1



t




order time lag
determines
 inflation
 P  1  s

  Ifn p r 


1 d
   
  Kr       


 dt

 v

1 d
   w fnaffects
 inf  t  share
     wages
Inflation
 dt
 Ifn p r  

 ps
 debt

v affects
 Ifn p rgrowth


1 d Inflation


 d
 
  Kr   inf  t  


d dt
d

 v

inf  t  
1
d
1 
inflag  t  rate

1
Lagged interest
reaction
toinflation
inflag  t  dt
 inf  inflag  t  
Simple rules, complex behaviour
• 4D model, so formal stability analysis much more challenging
• Empirical appears to yield fundamental instability. Linear functions…
Pure Private Sector Model
Private
Debt to
GDP
Employment
RateRatio
Inflation
Rate
Profit
Rate
Percent
year
of GDP
Percent
Percent
of per
Population
70
40
20
400
10
0
600
300
 20
5
200
50
40
0
0
100
 60
40
80
50
00
0
20
20
20
40
40
40
SimulationYears;
Years; www.debtdeflation.com/blogs
www.debtdeflation.com/blogs
Simulation
Unstable
Simple rules, complex behaviour
Percent
GDP
per
year
Percent
Percent
of of
Population
Pure Private Sector Model
• Nonlinear functions:
• Without recent
Employment
Inflation
Rate
RateRatio
Private
Debt
GDP
Profitto
Rate
financial
70
20crisis, model
could be dismissed as
“just a60
mathematical
400
curiousity”
• But real
50
10
5world
actually
300followed
pattern
40in this
stylized, simple
200
model3000
• Apparent period of
100 “Great
tranquillity
20
Moderation”
• Then
sudden
crisis
10
10
50
0
0
20
20
40
40
60
60
20
40
60
00
20
40
60
“Great Recession”…
00
Simulation
SimulationYears;
Years;www.debtdeflation.com/blogs
www.debtdeflation.com/blogs
Simulation
Years;
www.debtdeflation.com/blogs
Unstable
Simple rules, complex behaviour
• Income distribution dynamics of model:
– Profit share cycles around equilibrium level (before collapse)
• Declining workers share offsets rising bankers share
– Falling workers’ share signals approaching crisis (& causes deflation)
Income Distribution
Income Distribution:
Nonlinear Functions
Percentofof GDP
GDP
Percent
100
50
50
p sE
p
Equilibrium
profit
rate
sE
Average profit below equilibrium with nonlinear behaviour
Workers
Workers
Capitalists
Capitalists
Bankers
Bankers
0
0
0
0
20
20
40
40
60
Simulation
Simulation Years;
Years; www.debtdeflation.com/blogs
www.debtdeflation.com/blogs
“no significant macro-economic effects”
• Simple non-equilibrium, nonlinear model with simple behavioural
modelling captures what mainstream failed to anticipate
• Why did mainstream economists ignore debt (& not see crisis coming)?
• Conventional macro: private debt is macroeconomically irrelevant:
– “The idea of debt-deflation goes back to Irving Fisher (1933).
– Fisher envisioned a dynamic process in which falling asset and
commodity prices created pressure on nominal debtors, forcing
them into distress sales of assets, which in turn led to further price
declines and financial difficulties…
– Fisher's idea was less influential in academic circles, though, because
of the counterargument that debt-deflation represented no more
than a redistribution from one group (debtors) to another
(creditors).
• Absent implausibly large differences in marginal spending
propensities among the groups, it was suggested,
• pure redistributions should have no significant macro-economic
effects…” (Bernanke 2000, Essays on the Great Depression, p. 24)
Bernanke’s view versus reality
• In the data…
• In my simulation of Minsky…
• Crisis only inexplicable if you ignore “3rd dimension” of private debt
• Private debt conspicuously absent from mainstream macro…
What is the mainstream missing?
• Role of banking sector in creating new money, demand and income
– “banking is where left and right meet.
– Both Austrians … and Minskyites view banks as institutions that are
somehow outside the rules that apply to the rest of the economy, as
having unique powers for good and/or evil…
– I guess I don't see it that way.
– Banks don't create demand out of thin air any more than anyone
does by choosing to spend more; and banks are just one channel
linking lenders to borrowers…” (Krugman, “Banking Mysticism”)
• Essence of opposition is “Loanable Funds” model of debt:
– “Think of it this way: when debt is rising, it’s not the economy as a
whole borrowing more money.
– It is, rather, a case of less patient people—people who for whatever
reason want to spend sooner rather than later—borrowing from
more patient people.” (Krugman 2012, End this Depression Now! , p
147)
• IF this model described reality, THEN debt would indeed not matter…
Analyzing this with system dynamic modelling
• Most Neoclassical models ignore banks, debt and money
• Those that do treat banks as “mere intermediaries” that arrange loans
between savers and borrowers
• Banks themselves don’t lend in Neoclassical models
• E.g., Eggertsson & Krugman 2012:
– Patient Consumer agent lends to impatient Investment agent
• Investment agent pays interest to consumer agent
• Bank charges “intermediation fee” for arranging loan
– Both hire workers
– Buy output from each other
– Sell to workers & bank
– Investing agent changes borrowing and repayment rates
– Does debt matter? No…
The conventional “Loanable Funds” vision of lending
• Full model: Bank arranges loan from Consumer sector (Patient) to
investment (Impatient) sector & charges intermediation fee
• Workers hired, output produced & sold, investment…
Bank Balance Sheet
Flows\Stocks
Initial Conditions
Lending
Debt Repayment
Interest Payments
Bank Fee
Hire Workers (C)
Hire Workers (I)
Purchases (I)
Purchases (C)
Workers Consumption
Bankers Consumption
Bankers Investment
Assets
Reserves
100
ID
-20
-Lend
Repay
int
WI
IC
-CI
Liabilities
CD
-60
Lend
-Repay
-int
Fee
WC
-IC
CI
-CW
-CB
WD
-15
Equity
BE
-5
-Fee
-WC
-WI
CW
-IB
• Debt doesn’t appear here: Asset of Consumer Sector…
CB
IB
The conventional “Loanable Funds” vision of lending
• Consumer Sector “Godley Table”
Assets
Equity
CNW
-70
Flows\Stocks
CD
D
Initial Conditions
60
10
Lending
-Lend
Lend
Debt Repayment
Repay
-Repay
Interest Payments
int
-int
Bank Fee
-Fee
Fee
Hire Workers (C)
-WC
WC
Bankers Consumption
CB
-CB
Purchases (I)
CI
-CI
Workers Consumption
CW
-CW
Purchases (C)
-IC
IC
• Lending reduces Consumer Sector’s Asset of Cash at the Bank
• Increases Consumer Sector’s Asset of Loan to Investment Sector
• Consumer Sector’s does without Cash for duration of Loan
The conventional “Loanable Funds” vision of lending
• Simulated, Krugman/Bernanke correct: debt doesn’t matter…
• But a radical thought: what if—just maybe—banks lend money???
Varying lending & repayment in Endogenous Money
• Changing debt matters: change in money supply causes change in GDP
• Logic behind this: aggregate demand & income include change in debt
Loanable Funds, aggregate demand & income
•
•
•
•
Consider 3 sector model with sectors S1, S2, S3
Expenditure not debt-financed shown by CAPITAL LETTERS
Debt financed expenditure shown by lowercase letters
3 situations considered
– Borrowing not possible
– Borrowing from other sectors possible (“Loanable Funds”)
– Borrowing from banks possible (“Endogenous Money”)
• First case “Say’s Law” (actually “demand creates its own supply”)
Activity
Expenditure
(Exp.)
Sector Sector 1
Sector 1
-(A + B)
Sector 2
C
Sector 3
E
Net Income
Sector 2
Sector 3
A
B
-(C+D)
D
F
-(E+F)
• Negative sum of diagonal elements is aggregate demand
• Sum of off-diagonal elements is aggregate income
Loanable Funds, aggregate demand & income
• Clearly Expenditure  Income:
ADSL   A  B    C  D    E  F 
AYSL  A  B  C  D  E  F
• Loanable Funds: Sector 1 borrows b from Sector 2 to spend on Sector 3
– Sector 1’s funds for spending increase by b
– Sector 2’s funds fall by b (split 50:50 between S1 & S3 for simplicity)
Activity
Expenditure
(Exp.)
Sector Sector 1
Sector 1 -(A + B+b)
Sector 2
C-b/2
Sector 3
E
Net Income
Sector 2
Sector 3
A
B+b
-(C+D-b)
D-b/2
F
-(E+F)
• Aggregate outcome clearly the same as without borrowing
• But what if a bank lends to Sector 1?
– Assets & liabilities of banking sector rise equally; and…
– Increased spending power for Sector 1 not offset by fall in Sector 2
Endogenous money, aggregate demand & income
• Rise in Sector 1’s spending, and incomes of Sectors 2 & 3
Activity
Net Income
Sector Sector 1
Sector 2
Sector 3
Sector 1 -(A + B+b)
A
B+b
Expenditure Sector 2
C
-(C+D)
D
Sector 3
E
F
-(E+F)
ADEM   A  B  b    C  D    E  F 
•
•
•
•
AYEM  A  B  b  C  D  E  F
Aggregate outcome greater (if b>0) than without borrowing
Increase in debt causes equivalent increase in expenditure and income
– Aggregate demand and income are
• Demand¦Income from turnover of existing money;
• Plus Demand¦Income from newly created money
Generalises to flow of new lending (dD/dt: change in debt per year)
Consider flow of expenditure from existing money stocks S1…S3 plus
expenditure from flow of new debt-created money dD/dt…
Endogenous money, aggregate demand & income
• S1 to S3 now represent deposit account of relevant sector
• Rate of spending per year by SA on SB shown as vAB
• Bank equity account BE added to record interest payments…
Activity / Sector
Expenditure
Expenditure
Expenditure
Expenditure
S1
  v12  v13   S1 
S
Bank Accounts
2
dD
 rL  D
dt
v21  S1
v31  S1
vB1  BE  rD  S1
dD
dt
  v21  v23   S1
v32  S1
vB 2  BE  rD  S 2
v12  S1   
S3
v13  S1  1    
BE
dD
dt
v23  S1
  v31  v32   S1
vB 3  BE  rD  S3
rL  D
0
0
 vB1  vB 2  vB 3   BE  rD   S1  S2  S3 
d
New
D
dt
Debt
ADEM   v12  v13   STurnover
  vB1  vB 2  vB 3   BE   rDGross
  S1  S 2finance
 S3   rL  D  
 v31  v32   S3 money
1   v21  v23   S
2  existing
of
AYEM   v12  v13   S1   v21  v23   S 2   v31  v32   S3   vB1  vB 2  vB 3   BE   rD   S1  S 2  S3   rL  D  
d
D
dt
• I.e., Both aggregate expenditure and aggregate income are
– Non-debt financed Expenditure (i.e. turnover of existing money)
– Plus the change in debt (creation of new money & demand-income)
– Plus gross financial transactions
Endogenous money, aggregate demand & income
• Leads to dynamic, non-equilibrium, endogenous money Monetarism
versus Friedman’s static, equilibrium, exogenous (“Helicopter Money”)
Quantity Theory
• Static Friedman:
P Y  V  M
d
Gross
• Dynamic monetary: P  Y  V  M New
D  rD  M  rL  D
financial
Debt
dt
d
d Debt
d change
d2 &
P  Y  M  V  V  D  2 D  ...
• Change in GDP:
dt
dt
dt
dt
acceleration
• So a monetary vision of capitalism is essential
– (with finance since most debt money created for asset purchases)
• Private debt a huge “omitted variable error” in mainstream economics
– This is why they didn’t see the crisis coming
– Not because unpredictable
– But because their models exclude the forces that caused the crisis:
• Rate of change and acceleration of private debt…
US Aggregate debt levels
• Ignoring private debt has led us into biggest debt trap in history…
US Aggregate Debt Levels
200
180
160
Private
Government
Level when I began to warn of crisis (2006)
Percent of GDP
140
Level when Godley began to warn of crisis (1998)
120
100
80
60
40
20
0
1820
1840
1860
1880
1900
1920
1940
1960
www.debtdeflation.com/blogs
1980
2000
2020
Global aggregate debt levels
• Trend to excessive private debt common across the globe
Private Debt Levels
240
225
210
USA
UK
Japan
China
Crisis Jap an
Crisis USA
195
Percent of GDP
180
165
150
135
120
105
90
75
60
1980
1985
1990
1995
2000
www.debtdeflation.com/blogs
2005
2010
2015
Dramatic fall in credit growth post-crisis
Change in Private Debt
35
30
Percent of GDP per year
25
USA
UK
Japan
China
Crisis Japan
Crisis USA
20
15
10
5
0
0
5
 10
 15
1980
1985
1990
1995
2000
www.debtdeflation.com/blogs
2005
2010
2015
Credit growth dictates economic growth
Japan Change in Private Debt & Unemployment (Correlation -0.89)
Percent of GDP per year
25
Crisis Japan
Crisis USA
Debt Change
Unemployment
6.5
6
20
5.5
15
5
10
4.5
5
4
0
0 3.5
5
3
 10
 15
1980
2.5
1985
1990
1995
2000
www.debtdeflation.com/blogs
2005
2010
2
2015
Percent of Workforce
30
Whole world has “turned Japanese”
USA Change in Private Debt & Unemployment (Correlation -0.93)
20
12
Crisis USA
Debt Change
Unemployment
11
15
10
10
8
7
5
6
5
0
04
3
5
2
1
 10
1990
1995
2000
2005
www.debtdeflation.com/blogs
2010
0
2015
Percent of Workforce
Percent of GDP per year
9
Debt dynamics dominate asset markets
• According to Modigliani-Miller, these should be uncorrelated…
S&P500 & Margin Debt
3
Margin Debt
S&P500
2750
2.5
2500
2.25
2250
2
2000
1.75
1750
1.5
1500
1.25
1250
1
1000
0.75
750
0.5
500
0.25
250
0
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
www.debtdeflation.com/blogs
2010
2012
2014
0
2016
SP500
Percent of GDP
2.75
3000
Debt dynamics dominate asset markets
• According to Modigliani-Miller, these should be uncorrelated…
S&P500 & Margin Debt Change
60
1.2
50
0.8
40
0.6
30
0.4
20
0.2
10
0
00
 0.2
 10
 0.4
 20
 0.6
 30
 0.8
 40
1
 50
 1.2
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
www.debtdeflation.com/blogs
2010
2012
2014
 60
2016
Percent change per year
Percent of GDP per year
1
Margin Debt
S&P500
Debt dynamics dominate asset markets
• According to Modigliani-Miller, these should be uncorrelated…
S&P500 Change & Margin Debt Acceleration
60
2.4
50
1.6
40
1.2
30
0.8
20
0.4
10
0
0 0
 0.4
 10
 0.8
 20
 1.2
 30
 1.6
 40
2
 50
 2.4
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
www.debtdeflation.com/blogs
2010
2012
2014
 60
2016
Percent change per year
Percent of GDP per year per year
2
Margin Debt
S&P500
Debt dynamics dominate asset markets
• According to Modigliani-Miller, these should be uncorrelated…
Mortgage acceleration & house price change
25
Crisis
2
20
1.5
15
1
10
0.5
5
0
00
 0.5
5
1
 10
 1.5
 15
2
 20
 2.5
 25
3
 30
 3.5
 35
4
 40
 4.5
 45
5
 5.5
6
1990
 50
Mortgage acceleration
House Price Change
1992
1994
1996
1998
 55
2000
2002
2004
2006
2008
www.debtdeflation.com/blogs
2010
2012
2014
 60
2016
CPI adjusted price change per year
Percent of GDP per year per year
2.5
Turning Japanese
• Japan’s past 18 years gives us best case scenario projection for OECD…
Private Debt to GDP
240
GFC
220
200
180
Percent of GDP
160
140
120
100
Japan shifted to GFC
USA
China
Greece
Spain
Italy
Australia
UK
80
60
40
20
0
1980
1985
1990
1995
2000
2005
2010
2015
www.debtdeflation.com/blogs
2020
2025
2030
2035
Dramatic fall in credit growth post-crisis
• Decades of anaemic credit growth lie ahead…
Private Debt to GDP
40
GFC
35
China credit
growth now
collapsing…
30
25
Percent of GDP
20
15
Japan shifted to GFC
USA
China
Greece
Spain
Italy
Australia
UK
10
5
0
0
5
 10
 15
 20
 25
1980
1985
1990
1995
2000
2005
2010
2015
www.debtdeflation.com/blogs
2020
2025
2030
2035
The China Crisis
• China has done in 6 years what took 17 in USA & Japan:
Private Debt Bubbles from inception to crash
240
230
220
210
Percent of GDP
200
190
180
170
160
150
140
China since 2009
USA since 1993
Japan since 1970
130
120
110
100
0
5
10
15
20
25
30
www.debtdeflation.com/blogs
35
40
45
The China Crisis
• China undergoing 2nd stock market crash, but first with high leverage
Shanghai Index & Margin Debt
8000
3
Margin debt
0.000014%
of GDP
Shanghai Index
6000
Margin debt
>2% of GDP
2
4000
1
2000
0
2006
2008
2010
2012
www.debtdeflation.com/blogs
2014
0
2016
Margin debt as percent of GDP
Shanghai Index
Margin Debt
The China Crisis
• Acceleration of margin debt key driver/indicator of market
Shanghai Index Monthly Change & Margin Debt Acceleration
28
24
1.6
M axM argin
Index Change
Margin Debt Acceleration
1.4
1.2
20
1
16
0.8
12
8
0.6
0.4
4
0
0.2
00
4
8
 0.2
 0.4
 12
 16
 0.6
 0.8
 20
 24
1
 28
 32
2014
2014.2
2014.4
2014.6
2014.8
2015
2015.2
www.debtdeflation.com/blogs
2015.4
2015.6
2015.8
 1.2
 1.4
 1.6
2016
Percent of GDP per year per year
Percent Change in Index per year
32
Solution? Modern Debt Jubilee
• Only effective solution to debt-deflation is private debt reduction
– Could be done by “Quantitative Easing for the People”
• CB direct injections into private bank accounts
• Those in debt must cancel debt
• Those not in debt get cash injection
• Rebase money system to more fiat, less credit-based money
• Restructure banking to
– Reduce appeal of Ponzi lending (mortgages, margin loans)
• “PILL”: Property Income Limited Leverage
• Maximum loan factor (say 10 times) estimated income of
property being bought
– Meld venture capital with banking
• “EEL”: Entrepreneurial Equity Loans
• Banks get equity stake in loans to entrepreneurs
• Alternative is continuous stagnation—as with Japan since 1990
• Main barrier? Misplaced moral perception of debt
Solution? Modern Debt Jubilee
• Moral responsibility of debtor product of interpersonal view of debt
• Person to person loan—lender has to do without what he lends
Bank Balance Sheet
Flows\Stocks
Initial Conditions
Lending
Debt Repayment
Interest Payments
Assets
Reserves
100
ID
-20
-Lend
Repay
int
Liabilities
CD
-60
Lend
-Repay
-int
WD
-15
Equity
BE
-5
• But bank loans are creation of money & debt “out of nothing”
Bank Balance Sheet
Assets
Flows\Stocks
Reserves Loans
Initial Conditions
100
Lending
Lend
Debt Repayment
-Repay
Interest Payments
ID
-20
-Lend
Repay
int
Liabilities
CD
-60
WD
-15
Equity
BE
-5
-int
• Bank doesn’t lose pre-existing money if loan not repaid
• Instead bank over-produced money & debt—should write them off
Solution? Modern Debt Jubilee
• Stop falsely thinking of banks as warehouses (“Loanable Fund” view)
• Start thinking of them as “money factories”
– Can over-produce money and debt
– Write-off of excess production should be routine
– Especially since recent production socially counterproductive
• Asset bubbles caused by leverage
– Mortgage acceleration drives house price change
– Margin acceleration drives share price change
• Effectively funding Ponzi Schemes…
Conclusion
• Theoretical: getting structure of economy (including finance) right
more important than accurately modelling agent behaviour
• Revised realistic view of banking essential to understand where the
crisis came from & work out how to escape it
• Monetary complex systems macro needed in theory and policy
• Practical: current situation inevitably will give rise to political conflict
– Modern politics dominated not by Eisenhower’s “military-industrial
complex” but Minsky’s “politico-financial complex”
– Conventional “Ordo-Liberal” response to crisis (as in Greece)
compounds basic weaknesses of capitalism
• Modern Debt Jubilee needed to save capitalism from its own dynamics