Charles P. Kindleberger

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Martin Wolf

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This can hardly be a tolerable bargain between financial insiders and wider society.

The financial system is a subsidiary of the state.
A creditworthy government can and will mount a rescue.

That is both the advantage – and the drawback – of contemporary financial capitalism.
Martin Wolf, Financial Times February 26 2008

n an introductory chapter to the newest edition of the late Charles Kindleberger's classic work on financial crises, (Manias, Panics and Crashes, Palgrave, 2005) Robert Aliber of the University of Chicago Graduate School of Business argues that "the years since the early 1970s are unprecedented in terms of the volatility in the prices of commodities, currencies, real estate and stocks, and the frequency and severity of financial crises".
All these crises are different. But many have shared common features.

They begin with capital inflows from foreigners seduced by tales of an economic El Dorado. This generates low real interest rates and a widening current account deficit. Domestic borrowing and spending surge, particularly investment in property. Asset prices soar, borrowing increases and the capital inflow grows.
Finally, the bubble bursts, capital floods out and the banking system, burdened with mountains of bad debt, implodes.

The business of banks is to borrow short and lend long. Provided the Federal Reserve sets the cost of short-term money below the return on long-term loans, as it has for much of the past two decades, banks can hardly fail to make money.

The bottom line, then, is that even if things become as bad as I discussed last week, the US government is able to rescue the financial system and the economy.

So what might endanger the US ability to act?

The biggest danger is a loss of US creditworthiness. In the case of the US, that would show up as a surge in inflation expectations. But this has not happened.

On the contrary, real and nominal interest rates have declined and implied inflation expectations are below 2.5 per cent a year.

An obvious danger would be a decision by foreigners, particularly foreign governments, to dump their enormous dollar holdings. But this would be self-destructive. Like the money-centre banks, the US itself is much "too big to fail".

A more fundamental lesson still concerns the way the financial system works.

Outsiders were already aware it was a black box. But they were prepared to assume that those inside it at least knew what was going on. This can hardly be true now.

Worse, the institutions that prospered on the upside expect rescue on the downside. They are right to expect this. But this can hardly be a tolerable bargain between financial insiders and wider society. Is such mayhem the best we can expect? If so, how does one sustain broad public support for what appears so one-sided a game?

Full text

Bubbles have three stages: expansionary; then contractionary; and, finally, perhaps inflationary.
The world economy is now in the second stage.

That is why today's worry is deflation. But it is unlikely to stay there for ever. Ultimately, efforts to ward off post-bubble deflation risk creating its opposite.
Martin Wolf Financial Times 28/5 2003

Prisbubblor är inte okända. Den amerikanske ekonomhistorikern Kindleberger har i sin bok "Manias, panics and crashes, a history of financial crisis" kartlagt en lång rad, från 1648 och framåt.
DN-ledare 1998-06-26