History, Politics and Economics
Edited by Joëlle Leclaire, Tae-Hee Jo and Jane Knodell
Chapter 8: Engineering Pyramid Ponzi Finance: The Evolution of Private Finance from 1970 to 2008 and Implications for Regulation
Eric Tymoigne INTRODUCTION Private finance has changed tremendously over the past 40 years. Internationalization, deregulation and securitization have led to a flurry of innovations in terms of lending practices and financial products. Those innovations have generated a massive increase in leverage underlying the economic activities of developed economies. In the USA, this increase in leverage has become a requirement for households, in order to maintain a standard of living that has been eroded by 35 years of stagnant real wages and rising inequalities. Overall, economic growth was achieved only by greater financial fragility on the part of consumers and bankers, which ultimately made the economy prone to the worst recession since the Great Depression. Following the financial crisis, several reports have proposed ways to improve the regulation of financial institutions and the Bank for International Settlements is actively trying to correct some of the flaws of Basel II. However, it is assumed that existing financial regulation just needs to be tweaked slightly (higher capital requirements, accounting for procyclicality and other fine-tunings) to dramatically improve the stability of the financial system. This chapter argues that some fundamental changes to the existing regulatory framework are required. The concept of Ponzi finance must be at the core of the philosophy of regulation and supervision. In order to support this argument, the chapter first shows how finance has evolved over the past 40 years and how its evolution has promoted the emergence of Ponzi processes. The chapter then explains what Ponzi finance is, and,...
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