the Minsky moment has arrived(WSJ)

"At its core, the Minsky view wasstraightforward: When times are good, investors take on risk; thelonger times stay good, the more risk they take on, until they've takenon too much. Eventually, they reach a point where the cash generated bytheir assets no longer is sufficient to pay off the mountains of debtthey took on to acquire them. Losses on such speculative assets promptlenders to call in their loans. "This is likely to lead to a collapseof asset values," Mr. Minsky wrote.

When investors are forced tosell even their less-speculative positions to make good on their loans,markets spiral lower and create a severe demand for cash. At thatpoint, the Minsky moment has arrived.

"We are in the midst of aMinsky moment, bordering on a Minsky meltdown," says Paul McCulley, aneconomist and fund manager at Pacific Investment Management Co., theworld's largest bond-fund manager, in an email exchange.

Thehousing market is a case in point, says Investment Technology GroupInc. economist Robert Barbera, who first met Mr. Minsky in the late1980s. When home buyers were expected to have a down payment of 10% or20% to qualify for a mortgage, and to provide income documentation thatshowed they'd be able to make payments, there was minimal risk. But ashome prices rose, and speculators entered the market, lenders relaxedtheir guard and began offering loans with no money down and little orno documentation.

Once home prices stalled and, in many of the more-speculative markets, fell, there was a big problem.

"Ifyou're lending to home buyers with 20% down and house prices fall by2%, so what?" Mr. Barbera says. If most of a lender's portfolio is tiedup in loans to buyers who "don't put anything down and house pricesfall by 2%, you're bankrupt," he says.

Several money managersare laying claim to spotting the Minsky moment first. "I featured himabout 18 months ago," says Jeremy Grantham, chairman of GMO LLC, whichmanages $150 billion in assets. He pointed to a note in early 2006 whenhe wrote that investors had become too comfortable that financialmarkets were safe, and consequently were taking on too much risk, justas Mr. Minsky predicted. "Guinea pigs of the world unite. We havenothing to lose but our shirts," he concluded.

It was Mr. McCulley at Pacific Investment, though, who coined the phrase "Minsky moment" during the Russian debt crisis in 1998.

LaurenceMeyer, who served on the faculty with Mr. Minsky at WashingtonUniversity in St. Louis, was a Federal Reserve Governor during thoseturbulent times. Mr. Meyer says that when he was an academic, Mr.Minsky's work didn't interest him very much, but that changed when hewent into the real world. He says he grew to appreciate it even morewhen he was at the Fed watching financial crises unfold.

"HadMinsky been there, he probably would have been calling me and alertingme along the ride. And that would have been a good thing," Mr. Meyersays. "Every year that goes by, I appreciate him more. I hear myselfsometimes and I think, oh my gosh, I sound like Hy Minsky."

StevenFazzari, an economics professor at Washington University, says that Mr.Minsky would have supported the Federal Reserve's recent move toprovide cash and cut the rate it charges banks on loans from itsdiscount window to try to avert a financial crisis that could spillover to the economy. But he would probably be worried, too, that themoves might be bailing out investors who would all too soon bespeculating again.

Having seen recent events unfold in the wayhis friend and former colleague predicted, Mr. Fazzari says, "I hopehe's someplace saying, 'Aha, I told you so!'"