top of page

Financial system is destined to crumble

  • Writer: Macroprudential Policy
    Macroprudential Policy
  • May 25, 2020
  • 5 min read

Updated: Aug 16


ree

The safe asset shortage represents more than a technical market failure - it is the financial manifestation of deeper economic imbalances.

The global economy is currently trapped in a dangerous paradox where rising income inequality simultaneously creates both excessive savings accumulation and deficient consumption demand - a phenomenon first identified in underconsumption theories developed by economic thinkers like John Hobson (1902) and John Maynard Keynes (1936).

1. The Underconsumption-Savings Paradox and Its Impact on Safe Assets


The global economy is currently trapped in a dangerous paradox where rising income inequality simultaneously creates both excessive savings accumulation and deficient consumption demand - a phenomenon first identified in underconsumption theories developed by economic thinkers like John Hobson (1902) and John Maynard Keynes (1936). This dual dynamic manifests through several interconnected mechanisms:


First, the dramatic concentration of income among top earners has created a structural savings glut. According to research by Saez and Zucman (2020), the top 1% of earners in advanced economies save approximately 40% of their income, compared to just 5% for the bottom 90% of the population. With the top 1% having captured over 90% of U.S. income growth between 2009-2022 (Saez, 2023), this has generated an estimated $2.1 trillion in excess annual savings across advanced economies that the financial system struggles to absorb productively (IMF, 2023).


Second, this income redistribution from high-consuming workers to high-saving elites has depressed aggregate demand through what post-Keynesian economists call the "underconsumption trap." The IMF (2023) has quantified this effect precisely, finding that each 1 percentage point increase in the top 1%'s income share reduces aggregate consumption growth by 0.2 percentage points annually. The consequences are visible across real economic indicators: capacity utilization in G7 nations has declined from an average of 82% in the 1990s to just 75% in the 2020s (OECD, 2023), while business investment growth has halved from 4.2% annually during 1980-2000 to just 1.8% in the post-2000 period (BEA, 2023).


Third, these dynamics interact destructively with the safe asset shortage. As firms face weaker consumption demand, they reduce real investment, leaving excess savings with nowhere to go except financial markets. At the same time, quantitative easing programs have removed $15 trillion in government bonds from private markets since 2008 (BIS, 2023), with the Federal Reserve alone holding 35% of outstanding U.S. Treasuries ($5.4 trillion as of 2023). This creates a perfect storm where savings flood into increasingly risky financial instruments that are misleadingly packaged as "safe."


2. Financialization as the Crisis Amplifier


Faced with this combination of weak real investment opportunities and artificially scarce safe assets, the financial system has responded by engineering increasingly complex - and risky - solutions:


First, household debt has exploded as workers borrow to maintain consumption despite stagnant wages. U.S. household debt-to-income ratios have surged from 80% in 1990 to 140% in 2023 (Federal Reserve, 2023), recreating the same dangerous dynamics that led to the 2008 subprime crisis.


Second, the system now supports growing numbers of "zombie firms" - companies that cannot cover interest payments from earnings but remain alive through perpetual refinancing. Recent ECB data shows 18% of Eurozone corporate bonds now fund such non-viable firms (ECB, 2023), while Banerjee and Hofmann's research (2020) finds zombies comprise 12% of U.S. public companies.


Third, structured finance has created $700 trillion in derivatives (BIS, 2023) that purport to transform risky loans into safe assets through financial alchemy. Moody's research reveals that supposedly "AAA-rated" collateralized loan obligations now contain 35% junk-rated underlying loans (Moody's, 2023).


This situation perfectly illustrates Minsky's financial instability hypothesis (1986), where stagnant real economy investment leads to increasingly speculative financial expansion. It also echoes Marx's reproduction schema crisis (1885), where weak consumption goods demand (Department II) eventually undermines capital goods production (Department I). The result is a financial system that appears stable in calm periods but contains enormous latent risks.


3. The Coming Reckoning and Comprehensive Policy Solutions


The system's fragility grows daily as these imbalances compound:


First, the zombie firm phenomenon continues expanding, with Banerjee and Hofmann (2020) documenting zombies now represent 16% of EU public companies. These firms depress productivity while increasing systemic risk.


Second, private credit markets have ballooned to $1.5 trillion with minimal

oversight (FSB, 2023), recreating the shadow banking risks that caused the 2008 crisis.


Third, derivatives exposures have become dangerously concentrated, with BIS data showing five global banks now account for most of the $700 trillion derivatives market (BIS, 2023).


Breaking this cycle requires a comprehensive policy approach that addresses root causes rather than symptoms:


First, wage-led growth policies can rebalance consumption patterns. Germany's 2023 wage hikes, which increased incomes by 18%, boosted consumption by €45 billion (DIW, 2023) while reducing reliance on household debt.


Second, progressive wealth taxes could both reduce inequality and generate resources for productive investment. Research by Zucman (2023) shows a modest 3% tax on fortunes above $50 million could yield $4.2 trillion annually globally.


Third, strategic public investment can stimulate demand while addressing long-term challenges. The U.S. Inflation Reduction Act's $400 billion in climate spending has already created 1.7 million jobs (White House, 2023).


Fourth, central bank digital currencies should be structured as central bank assets rather than liabilities, allowing direct stimulus without creating new financial imbalances.


Conclusion


The safe asset shortage represents more than a technical market failure - it is the financial manifestation of deeper economic imbalances. Current approaches that rely on financial engineering and central bank interventions merely postpone systemic reckoning while exacerbating inequality. A sustainable solution requires moving beyond symptom management to address the root causes: income concentration, weak aggregate demand, and the financialization of economic activity. The policy framework outlined here - combining wage growth, wealth redistribution, productive public investment, and monetary reform - offers a path toward genuine stability. Without such comprehensive changes, the cycle of inequality, debt, and crisis will only intensify, with each downturn requiring ever more drastic interventions. The time for fundamental reform is now, before the next crisis forces even more painful adjustments.


References



Comments

Subscription

Sign Up

Thanks for submitting!

bottom of page