Risk & Profits

Economist Arnold Kling speaks on Minsky-nomics:

Minsky's key insight is that risk tolerance is cyclical. Investors will be risk averse for a while, and then gradually they will loosen up. Eventually, they become more and more complacent, until euphoria sets in, leading to bubbles and manias. This continues until a crash takes place, after which investors revert to being highly risk averse.

Minsky described this risk tolerance cycle in terms of three phases: hedge finance; speculative finance; and ponzi finance. During the hedge finance phase, investors are allergic to risk. You can say, "Here is a project that is probably going to offer some really nice returns," and the investors reply, "No, I don't want to touch it. I'm not buying anything that has a down side."

During the speculative finance phase, investors make reasonable trade-offs between risk and return. During the ponzi finance phase, investors ignore risks. Giving subprime borrowers option ARM mortgages was ponzi finance in every sense of the word.

Minsky's cyclical risk theory explains why the billions pumped into banks mostly failed to unfreeze the credit markets. Even with huge amounts of capital to loan, banks are unwilling to do it if they don't trust the borrowers. It is also why "tax-rebate" checks won't work since smarter people use the money THE WAY THEY SHOULD and pay off debt or put it into savings. Kling then gives his opinion on how to escape the current hedge finance phase we find ourselves in:

Under the circumstances of hedge finance, the only way that businesses are comfortable expanding is by financing investment out of profits. Another element of Minsky's thinking is that profits are the key to escaping a recession. Government deficits can contribute to this process by raising profits.

Makes sense to me. If companies had more money left over at the end of each day, they would be both psychologically prepared and financially motivated to put profits to use by way of hiring, investing, and purchasing.

The pro-profit measures being discussed center mostly on corporate taxes and corporate contributions to the payroll tax. I think corporations should be tolled or taxed in some way, but I won't get into that right now. However, I do say get rid of FICA altogether. It would not only raise profits for corporations, but it would eliminate a most regressive tax on the low and middle class.

Who are we kidding? There is no magical vault with all the FICA contributions stashed in them, waiting for disbursement in Social Security payments. The money collected from FICA goes into general revenue to be wasted spent without distinction. Replace it with a single progressive income tax that is highly tiered, like 1% for every additional $10k in income, and at non-bailout/stimulus spending levels, we could come out ahead with a top tax bracket around 35% for people making $350k or more a year. Not ideal, but better.