A Minsky moment is a sudden, major collapse of asset values which marks the end of the growth phase of a cycle in credit markets or business activity. It refers to the onset of a market collapse brought on by reckless speculative activity that defines an unsustainable bullish period. The term is frequently used to discuss past and/or probable future financial crises.
What are some catalysts for Minsky moments?
Minsky Moment crises generally occur because investors, engaging in excessively aggressive speculation, take on additional credit risk during prosperous times, or bull markets. The longer a bull market lasts, the more investors borrow to try and capitalize on market moves. Investors engage in aggressive speculations during bull markets and borrow to capitalize on the market sentiments. The longer the bullish periods, the more debt owed by investors, and hence, more risk.
What are some phases of Minsky moments?
According to Hyman Minsky’s Financial Instability Hypothesis, there are three phases that lead to a Minsky Moment. These are three credit lending stages, with risk levels increasing in each subsequent stage that finally ends with a market collapse or bubble burst. The three stages are:
1. Hedge Phase: This is the first stage of financial stability, where borrowers can repay interest and principal out of cash flow. Debt levels are manageable, and the risk of default is low.
2. Speculative Borrowing Phase: As economic conditions improve, debts are repaid and confidence rises. Borrowers begin to speculate on rising asset prices and take on more debt.
3. Ponzi Phase: The third and final phase leading up to the Minsky Moment is named for the iconic fraudster Charles Ponzi. In this phase, borrowers borrow more money than they can repay out of cash flow. They rely on rising asset prices to repay their debts.
What are some examples of Minsky moments?
One famous Minsky Moment example is the housing bubble burst of 2008 in the United States. When people are presented with easy credit availability exemplifying the subprime lending events, it accumulates household debt and increases asset prices.
Another example is the dot-com bubble of 2000. The bubble burst when investors realized that many dot-com companies were not profitable and did not have a clear path to profitability.
What are some effects of Minsky moments?
A Minsky Moment is the point in time that precedes a complete market crash. Minsky Moments occur when investors engage in aggressive speculative activity and increase credit risks during extended prosperous times. Hyman Minsky argued that the markets are intrinsically unstable and swing between stability and instability periods. Catalysts and effects of a Minsky Moment include investors engaging in aggressive speculations during bull markets and borrowing to capitalize on market sentiments. The longer the bullish periods, the more debt owed by investors, and hence, more risk.