The possibility that the financial system might be a source of instability leading to crises was frequently discussed in pre-Keynesian business cycle literature, which is reviewed briefly in the next section. The main focus of the chapter is the revival of interest in the financial instability hypothesis (FIH) in the 1970s and 1980s.
It has frequently been observed that interest in business or trade cycle theory is itself cyclical (e.g. Zarnowitz 1985, p.524). In periods of sustained prosperity interest wanes, as it did in the 1960s and early 1970s when research into macroeconomic dynamics concentrated on growth theory. At the end of the 1960s the continued existence of business cycles was questioned. The experiences of the 1970s and early 1980s, especially following the 1973 and 1979 oil price shocks, brought a resurgence of interest in business cycles.
Perhaps the most widely quoted and influential definition is that of Burns and Mitchell (1946, p.l) who state that:
Business cycles are a type of fluctuation found in the aggregate economic activity of nations that organise their work mainly in business enterprises:
- a cycle consists of expansions occurring at about the same time in many economic activities, followed by similarly general recessions, contractions, and revivals which merge into the expansion phase of the next cycle;
- the sequence of changes is recurrent but not periodic;
- in duration cycles vary from more than one year to ten or twelve years;
- they are not divisible into shorter cycles of similar character with amplitudes approximating their own.