On leverage and growth

Simon Johnson has found some research produced by Morgan Stanley that claims the following:

We think the regulators will balance the need for reducing systemic risk with the need for economic growth. … we think the demand for growth and access to credit will trump desire for unprofitable capital levels

The claim that maintaining the high levels of economic growth to which we have become accustomed requires that the financial system operate with minuscule levels of capital has sustained ever increasing leverage ratios in the financial system for decades.  I worried in this post that Morgan Stanley’s analysts are right and the crisis of the past year has indeed not been enough to dispell the idea that negligible levels of capital are the long term solution to our financial problems.

Lately I am often reminded of the fact that China’s experiment with fiat money lasted about 200 years — and I date  our current experiment with fiat money as starting in 1797.


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