Sample Essay – Major cause of financial crises
According to Minsky, the major cause of the financial crisis is the non-government sector, hence the need for government regulation of financial institutions. Therefore, he identified three types of borrowers: hedge, Ponzi and speculative. The hedge finance borrower repays the loans (debt) using the investment’s current assets (current cash flow).
The speculative finance borrower services the loans from the cash flows from investments, while the Ponzi finance borrower believes that the appreciation of assets is enough to repay a debt; however, the cash flow from the investment is not enough to repay a debt.
The memories of previous financial crises reveal that the government needs to control the financial institutions rather than set policies to deregulate the other players within an economy. The lender of the last resort encourages speculation, bringing about a financial crisis since firms already in financial trouble take more risk even though market failures may have caused the financial problem.
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