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The endogenous finance of global-dollar-based financial fragility in the 2000s: a Minskyan approach

Junji Tokunaga and Gerald Epstein

Keywords: endogenous money; financial fragility hypothesis; global financial crisis; global imbalances; gross capital flows; large complex financial institutions (LCFIs); shadow banking system; US dollar

Global financing patterns have been at the center of debates about the global financial crisis in recent years. The ‘global saving glut’ (GSG) view, a prominent hypothesis, attributes the emergence of the global financial crisis to an excess of saving over investment, mirroring the current-account surplus, in emerging market countries. Crucially, according to this view, the financial crisis was triggered by an external and exogenous driver, not the shadow banking system in advanced countries which was the epicenter of the financial crisis. Instead, we argue that the global financial crisis was inherently caused by the endogenously dynamic process of balance-sheet expansion at a handful of large complex financial institutions (LCFIs) in the US and Europe. Importantly, this process was facilitated by the endogenous finance of the global dollar in the shadow banking system in the 2000s before the financial crisis. The endogenous finance of the global dollar became highly elastic during 2004–2006, accelerating the dynamically overstretched nature of balance sheets at LCFIs that contributed to the build-up of global financial fragility. Thus, the supreme position of the US dollar as a debt-financing currency in the shadow banking system, underpinned by the dominant role of the dollar in the development of new financial innovations and instruments, was an important, but underappreciated, driving force in this endogenously dynamic and ultimately destructive process.

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