Re: Prospects vs Forecasts/Was Minsky non-ergodic?

["Henry C.K. Liu" <hliu@xxxxxxxxxxxxxx>]

The three examples of  loans you gave have as much to do as with corporate
finance and debt securitzation as they are practised today as discussing
the principles of bike riding to illustrate combat tactics in supersonic
fighters.  Banks hardly dominated the debt market these days. 
They have been reduced to the role of back up reditors. GE looks to its
bank credit line oly when it faced difficulties in the commercial paper
market which it mominates, due to a down grade of its dredit rating. When
GE sells commercial paper at near Fed funds rates, it is not obligated
to tell investors what it intends to do with the money.  The credit
is unsecured by any direct collateral. Corporate bond debt involves covenants
and triggers that are highly complex.  Convertible bonds allow the
investor to convert its loan into equity under certain trigger situations
of technical default such as if share prices fall below a certain level,
even if debt service has been kept current.

To anyone who is familar with debt securitization, your post and the arguments in it appear childish.  I suggest that if you are interested in credit economics, you familiar yourself with the facts before you settle on any theory.  Using common sense and school book examples will not lead you anywhere.

Henry C,K, Liu

Clifford Poirot wrote:

 

Paul Davidson asserts: 
Henry is correct on this Clff.

Minsky's writings (which you quote) require that the agent engaging in
"> "Hedge financing units are those which can fulfill all of their current
> contractual payment obligations by their cash flows: the greater the weight
> of equity financing in the liability structure, the greater the likelihood
> that the unit is a hedge financing unit. Speculative finance units are units
> that can meet their payment committments on "income account" on their
> liabilities, even as they cannot repay the principle out of income cash
> flows"

requires that the financing unit "knows" its future cash flows --and in a nonergodic world this can be done only if one has engaged in forward contracting to cover all future cash inflows and outflows (assuming no one defaults on a cash inflow contract).  As long as some inflows depend on future sales that are not already contracted for, any hedge or speculative finance can become Ponzi finance.

Paul
[Clifford Poirot] It is because of uncertainty about future cash flows that current hedge units can become Ponzi units (as Minsky himself noted). As Minsky noted, the ability to project these cash flows is dependent on the maintence of aggregate demand (and I would add of other factors as well such as consumer preferences, technological change, etc.) which are unpredictable.To argue that a current hedge position can become a Ponzi position does not mean you cannot make intelligent decisions today about whether a proposal is a hedge, speculative or Ponzi proposal. That we cannot form reliable probability distributions into the future is why loan officers must resort to rules of thumb.Here is a simple example. A loan officer faces three prospects for a small business loan:Prospect  1: An applicant requests a loan to buy a business, that is fully backed by the existing assets of the business. The income generated by the business for the last five years will cover the principal and interest payments. The applicant is also willing to pledge his home equity. This is clearly hedge finance. Anyone can tell, that this business is not guaranteed success, but it generates a current cash flow sufficient to meet all obligations.Prospect 2: An applicant requests a loan to start a new business. In order to meet the principal and interest payments, the business will have to generate a steady increase in sales volumes beyond first year projections. It will require balloon financing. this is speculative financing.Prosect 3: Prospect 3: the applicant requests a loan for a business in order to pay off existing debt that the business is unable to pay out of current sales. In order to meet future interest and liability payments, the business will have to sell existing assets.Of course, 1 can become 3. But at the present time, they are in different situations and they can be evaluated differently. Now, let's suppose the loan officer decides that he can securitize and sell all three loans and thus makes all three, the level of instability in the system will increase. That is why the increase in endogenous money creation and increasingly liquid characteristics have led to increasing levels of financial fragility.