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A Sep 2014 article in the Economist ran a story about a noted economist who proclaimed, "US, China and Europe are nearing their Minsky Moment" (http://www.cnbc.com/id/102035634#.).
What is this Minsky Moment?
Here's how Minsky Moment is explained in Wikipedia:
"A Minsky moment is a sudden major collapse of asset values which is part of the credit cycle or business cycle. Such moments occur because long periods of prosperity and increasing value of investments lead to increasing speculation using borrowed money. The spiraling debt incurred in financing speculative investments leads to cash flow problems for investors. The cash generated by their assets no longer is sufficient to pay off the debt they took on to acquire them. Losses on such speculative assets prompt lenders to call in their loans. This is likely to lead to a collapse of asset values. Meanwhile, the over-indebted investors are forced to sell even their less-speculative positions to make good on their loans. However, at this point no counterparty can be found to bid at the high asking prices previously quoted. This starts a major sell-off, leading to a sudden and precipitous collapse in market-clearing asset prices, a sharp drop in market liquidity, and a severe demand for cash."
When was the last time we saw a Minsky Moment?
Yes, it was not so long ago - in 2008. The US sub-prime crisis, caused largely by reckless over-leverage in dubious quality home loans through toxic derivatives, blew up when the underlying asset prices failed to continue moving up (the US housing market topped out in 2007 - a year before the crisis officially hit the markets). When home prices stopped moving up and started cooling off, the speculative excesses that were built around higher and higher home prices, came unstuck. What followed, as we know, was pretty much in line with the definition above, which Wikipedia helpfully gives us.
Why is it called a Minsky Moment?
Unlike most other theories which are named after their proponents, this one has got a little unusual history. The Minsky Moment was not a phrase coined by Mr. Minsky. Hyman Minsky was a US economist of the 20th century who held a pessimistic view about the stability of financial markets. Minksy believed that free markets are fundamentally unstable because speculation raises prices to an unnaturally high level that inevitably leads to catastrophic collapses. The idea is based on the premise that speculation creates only an illusion of growth known as a bull market, that is later proved unsustainable when a liquidity squeeze occurs. Mr. Minsky shared his views in the 1960s - at which time, many found his views ultra gloomy and unrealistic. He died in 1996.
The phrase "Minsky Moment" was coined by Pimco's Paul McCulley in 1998, to describe the Russian crisis. The gloomy prognosis that Mr. Minsky made decades ago were fully experienced by the Russians in 1998 and to a great extent by Asian countries in the mid 1990s. Ironically, the biggest Minsky Moment of our times - what the world saw in 2008 - occurred 12 years after his death. Minsky's dark prognosis about free markets sowing the seeds of their own collapse were starkly evident for the world to see and experience, almost 50 years after he first discussed such situations within the broader framework of his theories on the Minsky Cycle.
What is the Minsky Cycle?
Many economists have propogated their own versions of business cycles and super cycles. Minsky listed out 7 stages of a typical Minsky Cycle.
Displacement : Displacement is a stage where the rules of the game change - either through technological advances, innovations or new Government regulations - which throw up new profit making opportunities for smart investors and entrepreneurs. Often, the birth of a new business cycle happens when some displacement occurs either in the entire economy or in vital sections of the economy.
Healthy expansion : This is an ideal stage, where businesses are expanding on the strength of investors and entrepreneurs leveraging the displacement that has occurred.
Leverage driven growth : This is the stage where excesses begin to creep in - where, as Minsky said, free markets sow the seeds of their own downfall. Incremental growth is spurred primarily by availability of cheap financing and willingness of entrepreneurs, investors and speculators to take higher risks as their business confidence increases.
Euphoria / over-trading : When leverage has adequately fuelled the fire, a full blown forest fire erupts, with everybody jumping onto the bandwagon for a piece of the action.
Insider profit-taking : This is a stage where smart money exits as it is clearly able to see the unsustainability of the party that's going on. Usually, company insiders know how unrealistic and how difficult to achieve are the latest euphoric earnings forecasts being put out by the market. They are the ones who are usually the first ones out of the door.
Liquidation/panic : This is a phase where the Minsky Moment occurs. The party ends as speculative excesses are unable to push asset prices up beyond a point. When that point is crossed, everyone rushes for the door, only to find that the door is just too narrow for everybody to get out at once. The panic that ensues is what is described earlier as the Minsky Moment.
Revulsion/discredited : This is a stage when an asset class or a business segment becomes the most hated game in town. Too many bad memories of the panic stage, too many losses sustained means practically no interest in the asset class.
Where are global asset classes on the Minsky Cycle?
Reproduced below is a May 2014 chart from Deutsche Bank that not only gives us the 7 stages, but also provides the Bank's view on which asset classes are in which stage of the Minsky Cycle.
Where on the Minsky Cycle should we place Indian equities?
Nearer home, here is a view on the Indian equity market, viewed from the prism of the Minsky Cycle. This is not an expert opinion, but merely an observation (could be as right as wrong!). One can perhaps say that after years of going through the revulsion/discredited phase, Indian equities saw their displacement moment when the 2014 General Elections threw up, for the first time in decades, a simple majority for a party led by a captain with a strong administrative track record. Rules of the political game suddenly changed, which has sparked fresh enthusiasm among entrepreneurs, investors and speculators.
What we have seen since this displacement of May 2014 is what we hope is the beginning of the healthy growth phase. How long will this last? When will leverage start fuelling excesses? Nobody knows the answer - suffice to say that the cycle is perhaps in a good phase right now and in all probability, each phase of the cycle will play out over the years ahead once again, just as it always has in the past. For now, Indian equities seem far away from their Minsky Moment. But, as the Deutsche Bank chart suggests, some popular global asset classes may not be that far away from their own Minsky Moments.
Share your thoughts and perspectives
Do you have any observations or insights or perspectives to share on this issue? Did this help you understand the topic better? Do you disagree with some of the observations? Please post your comments in the box below ..... it's YOUR forum !
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