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Soldier of Misfortune

Did Hyman Minsky’s Jewish upbringing help him predict the financial crisis?

By Mark Cohen

When the subprime mortgage crisis began last year—a crisis that yesterday swallowed Lehman Brothers, ended Merrill Lynch’s independence, threatened insurance giant AIG, and generally shook the American financial system—journalists wasted little time before calling it a Minsky Moment. The Wall Street Journal‘s front-page story of August 18, 2007, beat out London’s Guardian by less than a week, but both were scooped earlier that month by the nationally syndicated radio show Marketplace. By the time The New Yorker used the phrase in February of this year, there was no debate about what future times would call this economic earthquake.

Unlike the names given to hurricanes and other natural disasters, though, there really was a Minsky behind the Minsky Moment. Hyman Minsky, born to Russian-Jewish socialist parents in Chicago in 1919, was an economist who earned his Ph.D. at Harvard, taught at Brown, Berkeley, and Washington University in St. Louis, and served as a Distinguished Scholar at the Levy Economics Institute of Bard College from 1990 until his death in 1996. But his fame rests on his insight into the fragile nature of our modern, complex capitalist system dominated by Wall Street financial institutions. According to economist Paul Samuelson, ninety-five percent of economists believe that the capital market is rational and efficient; Minsky fell in the other five percent. He did not believe that modern financial capital markets were stable and, perhaps more significantly, did not even believe they could be made stable. It was an insight that may have more to do with his Jewish upbringing than most people realize.

Minsky’s parents met in Chicago at a celebration held by the Jewish section of the Socialist party in honor of the hundredth anniversary of the birth of Karl Marx. As a high school student, the young Hyman Minsky belonged to the youth division of the American Socialist party, and he would always be associated with the political left. But another fundamental influence on his thinking came as a result of his brief time in Germany in October 1945, just after the war ended. In his only autobiographical essay, “Beginnings,” Minsky steered clear of his Jewish background but wrote that his time in Germany made it clear to him “the importance of the specific institutions and historical circumstances [for] what happens in the world.” He stressed that “what is important is for society to be democratic and humane.”

This conviction guided Minsky’s economics. He wanted economic policy to “sustain the civil and civilized standards of an open liberal society.” Preserving such a society from the ravages of capitalism would not be easy, because Minsky envisioned capitalism as prone to crises intrinsic to the system. Attempts to correct imbalances, he believed, only bring on further imbalances. Minsky’s now famous “financial instability hypothesis” posits that the economy does not suffer crippling crises because of external shocks, such as oil price hikes, but because of internal workings. It is the tendency of financial institutions, during stable periods, to discount the inherent uncertainty of future profits. This eventually—indeed, inevitably—leads to big trouble. As the sense of risk and uncertainty diminishes, financial actors lend and borrow more in order to maximize the future profits that seem assured. As the investment bubble grows, the Federal Reserve Bank increases interest rates to restrain inflation. This is meant to be stabilizing. But because debt is large and widespread, higher rates increase debt payments. Borrowers then default and lenders must sell foreclosed assets to avoid collapse. In a Minsky Moment, so many lenders want to sell at once that prices collapse and the panic feeds on itself until, in the worst case, assets lose most of their value and there is a depression. This scenario led Minsky to believe, as he put it, that “stability is destabilizing.” The dilemma expressed in those three words is obvious and profound. If even stability is destabilizing, then instability is here to stay. Indeed, Minsky believed that the way to protect society was to be alert to the twin threats of uncertainty and risk that, when ignored, exacerbate market instability.

To my mind, Minsky’s sensitivity to a systemic risk that others could not see was rooted in his experience as a Jew in the twentieth century. That he was not alone in this only strengthens the point. The greatest authority on stock market investing is generally thought to be Benjamin Graham who, as the saying goes, taught Warren Buffet everything he knows. Graham taught at Columbia University and Buffet was his student. The professor came from an Orthodox Jewish family whose original name was Grossbaum, and in his memoirs Graham wrote, “My Jewish birth has brought me only small disadvantages, and that these have been more than offset by certain gifts of mind and personality.” If those Jewish gifts are apparent anywhere, they are in the single most important statement in Graham’s landmark book, The Intelligent Investor. Near the book’s end, Graham sounds a Minsky-esque note on the prevalence of risk and the attendant need for safety. “The secret of sound investment,” he wrote, can be expressed in three words: “MARGIN OF SAFETY” (capitalization his).

Other Jewish economists have shown similar sensitivity to the prevalence of risk. Harry Markowitz, born in Chicago in 1927, won the Nobel Prize in economics for his Modern Portfolio Theory of investing. His key insight, according to the profile on his web page, was to realize that an earlier theory “lacks an analysis of the impact of risk. This insight led to the development of his seminal theory of portfolio allocation under uncertainty.” And today, the most prominent economist to laud Minsky and predict economic catastrophe is Nouriel Roubini, a professor of economics at New York University. A month ago, a year after the Minsky Moment was first mentioned, The New York Times ran a major feature on Roubini, who admitted that he has “more concerns about potential risks and vulnerabilities than most people.” Roubini is a Turkish-Iranian-Israeli-Italian Jew whose peripatetic childhood amounted to a crash course in instability. His life as a “global nomad” is easily seen as a continuation of an archetypal Jewish experience.

And so it seems that uncertainty, risk, and the need for safety have been common themes in the work of no fewer than four prominent Jewish economists (a group led by Minsky, perhaps the most famous risk-oriented economist in the world). This is the kind of coincidence that intrigues Jewish social historians, who in recent decades have tried to understand and measure the Jewish contribution to theater, song, modern music, photography, civil rights, and other areas. There is enough evidence for the study of a Jewish impact on this field of economics as well. And, given the front pages of this week’s newspapers, now seems like as good a time as any to begin.

In other words, a sense of history is sadly lacking.

More discussion of Minsky and Paul Krugman’s position at The Economist.