Essays in Honor of Lance Taylor
Edited by Amitava Krishna Dutt
Chapter 8: Financial fragility in developing economies
Duncan K. Foley 1 INTRODUCTION The epidemic of ﬁnancial crises in developing and newly industrializing countries that accompanied the liberalization of domestic and international capital markets in the 1990s has underlined the relevance of Hyman Minsky’s (1975, 1982) conception of ﬁnancial fragility to the contemporary world economy. Minsky’s own work focused on ﬁnancial fragility in fully industrialized capitalist economies with highly developed ﬁnancial institutions and markets. Minsky saw a tendency for ﬁnancial positions to become increasingly indebted in periods of prosperity, and hence increasingly vulnerable to debt-deﬂation crisis, as both borrowers and lenders become tolerant of higher ratios of debt to equity ﬁnance. In Minsky’s view a ﬁnancially fragile economy posed a diﬃcult problem for a central bank; in attempting to control ﬁnancial fragility by tightening monetary policy and raising interest rates, the central bank could trigger the ﬁnancial crisis it sought to avert. The drama of ﬁnancial crisis in the international economy in the 1990s played out in a rather diﬀerent context. Industrializing economies with high structural proﬁt rates and good opportunities for proﬁtable investment but relatively undeveloped ﬁnancial institutions faced large inﬂows of short-term debt capital in the context of the ‘Washington consensus’inspired liberalization of international capital ﬂows. Positive shocks to investment and proﬁtability in these economies triggered unstable capital inﬂows which led in turn to external and internal ﬁnancial crisis as the resulting current account deﬁcits became unmanageable. In this repeated pattern of events, however, we can see...
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