An Empirical Contribution To Minsky's Financial Fragility

Cambridge Journal of Economics 2019, 43, 585–622
doi:10.1093/cje/bey031
Advance Access publication 28 August 2018
Downloaded from https://academic.oup.com/cje/article-abstract/43/3/585/5085210 by UNIVERSIDAD DEL EXTERNADO user on 08 May 2020

An empirical contribution to Minsky’s
financial fragility: evidence from
non-financial sectors in Japan
Hiroshi Nishi*
This study presents an empirical analysis to detect Minsky’s financial fragility and
its determinants in non-financial sectors in Japan, with particular attention on the
differences between sectors and size. While post-Keynesian developed theoretical
analyses of financial fragility for economic growth models, its empirical application
is limited. Based on the financial fragility indices derived from a cash-flow account-
ing framework and Minsky’s margins of safety, I detect the overall configuration and
evolution of financial fragility (hedge, speculative and Ponzi) in Japan. Then, I de-
tect the factors that determine the probability of being Ponzi finance using a panel
logistic regression. The results show that although speculative finance dominates
many sector and size categories, the evolution of hedge and Ponzi finance is diversi-
fied and the determinants of financial fragility differ by category in Japan.
Key words: Minsky, Financial fragility, Margin of safety, Japanese economy

JEL classifications: C25, E12, N15
1. Introduction
This study aims to empirically detect financial fragility in Japan’s non-financial sector
based on Hyman P. Minsky’s argument. Minsky (2008, 2016) classified firms’ finan-
cial fragility in an economy by hedge, speculative and Ponzi finance. Although post-
Keynesian theoretical models capture Minsky’s financial dynamics, empirical analyses
of financial fragility are rare.
Minsky emphasised the interrelationship between a firm’s internal funds, invest-
ment, debt accumulation and interest rates to explain the causes and consequences
of financial fragility. Because the essence of his argument fits well with the behav-
iour exhibited in Japan’s non-financial sector, I conduct an empirical analysis of this
Manuscript received 6 September 2016; final version received 30 April 2018.

Address for correspondence: Professor of Economics, Faculty of Economics, Hannan University, 5-4-33,
Amami Higashi, Matsubara, Osaka 580-8502, Japan; email: nishi@hannan-u.ac.jp
* Faculty of Economics, Hannan University. I am grateful to anonymous referees for their helpful com-
ments. Earlier versions of the paper have been presented at the EAEPE Conference, 2016, in Manchester,
the Economics Department Research Seminar 2017 at Kingston University and Advances in Minsky’s
Theory of Finance-driven Business 2018 at Kingston University. I am indebted to the participants of the
discussions there, in particular to Engelbert Stockhammer, Antoine Godin, Maria Nikolaidi, Robert Jump,
Paul Auerbach, Karsten Köhler, Gouzoulis Giorgos and Benjamin Wilhelm, for valuable suggestions. This
work was supported by Josei-Kenkyu by Hannan University. Any remaining errors are mine.
© The Author(s) 2018. Published by Oxford University Press on behalf of the Cambridge Political Economy Society.
All rights reserved.
586 H. Nishi
economy based on Minsky’s theory. First, the Japanese economy involves financial dy-
namics that Minsky attempted to capture and is traditionally classified as an economy
of bank-based financial institutions (Schaberg, 1999; Allen and Gale, 2000; Hölzl,

2006). Japanese firms depend on borrowing from a main bank, especially when they
conduct operating activities (e.g. investments) that require significant funding beyond
internal funds.1 Consequently, the links between internal funds, investment, debt ac-
cumulation and repayments emphasised by Minsky help us to understand the real and
financial performance of Japan. Thus, this study empirically detects Minsky’s financial
fragility in Japan’s non-financial sectors.
In addition, Minsky emphasised that financial factors cause business cycles. Indeed,
financial factors have caused booms and depressions in Japan since the 1980s.
According to Nishi (2012), firms achieved a high capital accumulation rate in the late
1980s, partially stimulated by the bubble economy.
However, after the bubble burst in 1991, the accumulation rate diminished, with
growth rates dropping to levels that were, in general, lower than those before 1990.
During the 1990s, new commercial loans at domestic banks stagnated, whereas firms’
debt ratios remained high. The deterioration in the debt ratio affected the banking sec-
tor’s behaviour, inducing the sector to adopt more stringent lending, which resulted in
the 1997–98 credit crunch (Koo and Sasaki, 2010). Based on the Systems of National
Accounts of Japan, the annual growth rates of private non-residential investment and
of the gross domestic product (GDP) in 1998 were −1.2 and −1.1%, respectively (see
Figure 1). In this regard, Motonishi and Yoshikawa (1999) estimated that the credit
crunch lowered the growth rate of GDP by 1.6% and concluded that financial factors
were largely responsible for the stagnation in this period. After the so-called Takenaka
Plan of 2002 during the Koizumi administration, which promoted economic growth
by reducing bad loans in the banking sector, the capital accumulation rate began to
recover. Additionally, led by an increase in export demand, Japan’s economy in this
period recorded GDP growth of about 2%. However, following the global financial
crisis of 2008 that originated in the USA, Japan’s GDP growth rate fell by 5.4% in
2009. Thus, financial factors are closely related to Japan’s booms and depressions. In
this sense, Japan is an appropriate country to test the mechanism of financial fragility
based on Minsky’s argument.
This study makes three main contributions to the literature. First, in classifying
the three stages of financial fragility (i.e. hedge, speculative and Ponzi finance),2
I introduce the margins of safety that Minsky emphasised to measure them. Note
that I derive these from balance sheets rather than using the more common method
in the literature of cash-flow measurement. The margins of safety play an important
role in his argument as the main determinants of financial fragility (Kregel, 1997).
However, prior empirical studies have not explicitly employed margins of safety
1
The main bank system is a unique financial institution in Japanese capitalism, in which firms have close
ties with a particular commercial bank. The main bank provides a firm with various financial services, such as
credit, payment settlement, foreign exchange and advisory services. Traditionally, Japanese firms obtained debt
finance from their main bank. In addition, firms have reciprocal shareholdings with their main bank, and the
bank usually has a director on the firm’s board to monitor the firm’s management (Aoki and Patrick, 1995).
2
In this study, I measure financial fragility as hedge, speculative and Ponzi finance. Financial instability
refers to the propensity for financial fragility to affect overall economic performance. Thus, financial fragility
is a pre-condition for financial instability. For example, Minsky (2008, p. 232) states that the ‘mixture of
hedge, speculative, and Ponzi finance in an economy is a major determinant of its stability. The existence of a
large component of positions financed in a speculative or Ponzi manner is necessary for financial instability’.
An empirical contribution to Minsky’s financial fragility 587

Fig. 1. Growth rate of GDP, investment and change in debt ratio
Note: The left axis measures the growth rate (%) of private non-resident
investment and that of GDP, and right axis shows the debt ratio (%). The debt
ratio is measured as the ratio of the total loan balance to total assets.
Source: National Accounts of Japan, Cabinet Office.
in their analyses of financial fragility. Following Minsky’s original text, this study
explicitly introduces margins of safety to measure the financial fragility in Japan’s
non-financial sectors.
Second, this study explores the financial fragility of the Japanese economy by ana-
lysing and comparing the performance of individual sectors. In doing so, I also focus
on sectoral capital size. The stage and evolution of financial fragility differ by sector
and size in Japan. Empirical analyses often employ aggregate analyses that focus on
national economic performance. Consequently, they cannot identify such diversity,
which may lead to misunderstandings about the nature of financial fragility. For exam-
ple, consider an economy in which one sector is in a hedge position and the other
sector is in a speculative or a Ponzi position. In this case, the lending or interest rate
policy should differ accordingly. A rise in interest rates may have little effect on the
sector in a hedge position, but sectors that have adopted speculative or Ponzi positions
are vulnerable to changes in interest rates, which can lead to financial instability in the
overall economy. Thus, an analysis based on sector and size provides a more detailed
understanding of the characteristics of financial fragility.
Third, I reveal the determinants of financial fragility using an econometric analysis.
Although empirical studies have contributed to the taxonomy of financial fragility in
various countries, the determinants of each stage remain unclear. The current study
complements the taxonomy by econometrically detecting the main determinants of
financial fragility. In particular, I employ panel logistic regression models to detect the
determinants of the probability of Ponzi finance in each sector and size category. In
this analysis, I introduce the roles of the output gap, interest rates, capital asset ratio
and a financial conditions (FCs) dummy variable in these models, based on a hypoth-
esis deduced from Minsky’s arguments.
588 H. Nishi
The remainder of this article is organised as follows. Section 2 reviews empirical
studies of Minsky’s financial fragility. Section 3 defines the financial fragility of hedge,
speculative and Ponzi finance based on a cash-flow accounting framework and Minsky’s

margins of safety. This section also describes the data and the empirical methodology.
Section 4 presents the empirical analysis, in which I consider the overall and dynamic
properties of financial fragility by sector and size. Section 5 complements the previ-
ous sections by detecting the determinants of financial fragility using an econometric
analysis. Section 6 concludes the paper.
2. Empirical studies of Minsky’s financial fragility

Minsky (1975, 2008, 2016) inspired current post-Keynesian financial economics. He
explained fluctuations in investment in a capitalist economy by focusing on a firm’s
debt finance. Financial fragility in the non-financial sector is especially relevant to the
current study. Although theoretical models in this area are relatively well developed,
there are few related empirical studies.
Schroeder (2009), Mulligan (2013), Pedrosa (2016) and Davis et al. (2017) are
pioneers in terms of relevant empirical studies. Schroeder (2009) examined the
financial fragility in New Zealand between 1990 and 2007, extending the represent-
ative firm’s financial fragility criteria to explain the evolution of financial fragility at
a macroeconomic level. The results show that New Zealand exhibited an increasing
degree of financial fragility by shifting from a hedge position to a speculative posi-
tion in 2003, which then led to a Ponzi position in 2004. Mulligan (2013) applied
Minsky’s financial instability hypothesis to North American firms for the period
2002–09 and provided direct empirical support for this hypothesis on a sectoral
basis. He found that the number of hedge and Ponzi firms grew steadily until the
recession was imminent; when the financial crisis of 2008 hit, numerous hedge
firms adopted either a speculative or a Ponzi position. Although these studies exam-
ine financial fragility in different countries, they all show that financial fragility
worsened after the 2000s. Pedrosa (2016) and Davis et al. (2017) provide empirical
analyses of the financial fragility in US sectors. Pedrosa (2016) questions the role
of the leverage ratio in explaining financial fragility and find that the ratio is not a
good indicator of financial fragility in the USA. Instead of using the leverage ratio,
Davis et al. (2017) use linear probability models, finding that while business cycle
expansions decrease the probability of a firm employing Ponzi finance, the impact
is very small.3
Although these works explore the empirics of Minskian financial fragility, each over-
looks important empirical issues. First, none of these studies account for Minsky’s
margins of safety when classifying financial fragility. If we try to capture financial
fragility from Minsky’s perspective, these variables should be introduced into the
empirical analysis. Second, the scope of Schroeder’s (2009) work is limited to the
aggregate level. Consequently, her analysis does not capture sectoral differences in
3
The empirical analysis of financial fragility is not restricted to the private sector. Argitis and Nikolaidi
(2014) applied a Minskian analysis to the Greek government sector, showing that since 2003, the Greek
government sector has shifted to an ultra-Ponzi regime, in which the government runs a primary deficit.
Ferrari-Filho et al. (2010) applied Minsky’s financial fragility analysis to the Brazilian public sector after
2000, using total revenue and total expenditure in the public sector. They found that the Brazilian public
sector’s financial position remained speculative throughout the 2000s.
financial fragility. Japan’s macroeconomic performance is heavily influenced by the
performance of individual industries, which can vary significantly. Thus, it is im-
portant that we include sectoral heterogeneity related to financial fragility. Third,

although Mulligan (2013) focused on sectoral differences in financial fragility, the
study’s criteria for hedge, speculative and Ponzi finance are ad hoc, measured using
a firm’s interest coverage, defined as (net income + interest expense) ÷ interest ex-
pense. Here, a value greater than or equal to 4.00 represents a hedge unit, a value
between 4.00 and zero represents a speculative finance unit and a value less than zero
represents a Ponzi finance unit (Mulligan, 2013, p. 452). However, he does not justify
the choice of thresholds in his study. In addition, to the best of my knowledge, Minsky
did not employ these thresholds. Hence, more appropriate thresholds founded on
Minsky’s argument are required. Fourth, these studies focus only on the flow side of
finance when defining financial fragility. In contrast, Minsky also defined financial
fragility in terms of stock items appearing on the balance sheet, which is overlooked
in the literature. Assets and liabilities on the balance sheet are the origin of future
cash-flow generation, whereas cash flow also affects balance sheet conditions. Thus,
financial fragility should be examined by focusing on both the flow side and the stock
side. Fifth, although financial fragility has been examined with respect to business
cycles (Davis et al., 2017) and leverage ratios (Pedrosa, 2016), these approaches may
underestimate other variables that Minsky considered to be sources of financial fra-
gility. Consequently, existing studies have not yet provided sufficient evidence of how
financial fragility evolves.
Taking into account the contributions and limitations of previous Minskian analy-
ses, this study adds to the literature in several novel ways. First, I measure financial
fragility based on Minsky’s original argument on the margins of safety in terms of stock
and cash flow. Second, I explore the financial fragility of an economy based on indus-
try sectors and capital size. Third, using a panel logistic regression, I econometrically
detect the determinants of financial fragility. Moreover, this is the first study to empiri-
cally detect financial fragility in the Japanese economy.
3. Financial fragility indices

3.1 Measuring financial fragility
3.1.1 Financial fragility index 1. I employ both a cash-flow accounting framework and a
balance sheet approach to measure financial fragility. First, I present the key equations
and then discuss the implications of each case.
This section extends the cash-flow accounting framework developed by Schroeder
(2009). Schroeder summarises this framework as equating sources and uses of funds
in a representative firm. Let us define the sources of funds as the sum of profits and
borrowings, and define uses as new investments, debt service payments and dividend
payments. That is,
Profits + Borrowings = New investments

(1)
+ Debt service payments + Dividend payments,
590 H. Nishi
In this equation, I have introduced dividend payments into this framework. Minsky
(2008, 2016) recognised that cash payments may include dividends.4 In the Minskian
model, Sasaki and Fujita (2014) employed the same cash-flow accounting framework,

including dividends as part of financialisation.5
I define the index FFI-1 based on equation (1). Using this index, I classify hedge,
speculative and Ponzi finance positions as follows.
FFI-1 (cash-flow accounting framework)

• Hedge: The economic unit is a hedge unit if r – g – iD – d ≥ 0.
• Speculative: The economic unit is a speculative unit if r – g – iD – d < 0 and r –
iD – d ≥ 0.
• Ponzi: The economic unit is a Ponzi unit if r – g – iD – d < 0 and r – iD – d < 0.
Here, r represents the profit rate, g represents the capital accumulation rate, iD repre-
sents debt service per capital, and d represents dividend payments per capital. Because
the values of items in equation (1) are large, I normalise them using capital stock in
the empirical analysis. Section 3.2 explains the correlations between the variables and
the statistical data.
Each position in FFI-1 is derived in light of the cash-flow accounting framework in
equation (1), as follows. In hedge finance, the firm’s profits are larger than or equal to
its total expenditure in equation (1). Then, we have
Profit ≥ New investments + Debt service payments + Dividend payments. (2)
This means that a hedge finance unit does not necessarily rely on additional borrowing
or that it can use what remains from the profit to reduce borrowing. Hedge finance
is the most robust of the financial structures. In speculative finance, the firm’s profits
are less than the sum of its investment, debt service and dividend payments, but larger
than the sum of its debt service and dividend payments. In terms of equation (1), the
speculative unit is defined as follows:
Profit < New investments + Debt service payments + Dividend payyments, (3)
4
In terms of the use of funds, Minsky (2008, 2016) himself recognised that cash payments should in-
clude dividends: ‘Cash payment commitments on outstanding instruments are contractual commitments
(1) to pay interest and repay principal to on debts and (2) to pay dividends—if earned—on equity shares.
These cash payment commitments are money flow set up by the financial structure’ (Minsky, 2016, p. 17).
He also states that the ‘cash payments made by a unit over a relevant time period equal the spending on
current labor and purchased inputs, tax payments, the remittance due to debts that fall due, and dividends’
(Minsky, 2016, p. 22). Moreover, Minsky (2008) mentions that dividends are subtracted from firms’ income
in several passages of ‘Economic Theory’. For instance, he notes that ‘gross profits are divided into gross
retained earnings, taxes, dividends, interest payments, rents, and the wages of overhead labor: all of these are
an allocation of profit’ (Minsky, 2008, p. 172).
5
A Minskian analysis should include not only interest payments, but also principle payments in the use of
funds to determine financial fragility. For example, Minsky mentions that a Ponzi finance unit may borrow
to meet interest and principle payments (Minsky, 2008, p. 364). The current study includes only the former
(debt service payments). The latter is excluded because data for principle payments in flow terms are not
available. This peculiarity remains in this study. Instead of principle payments in flow terms, I introduce the
existence of a principle as a stock term when calculating the margin of safety.
but still ensures
Profit ≥ Debt service payments + Dividend payments. (4)

That is, the speculative finance unit depends on borrowing to finance investment.
Finally, a Ponzi unit is also subject to equation (3). In addition, in a Ponzi position, a
firm’s profit is less than the sum of its debt service and dividend payments. Therefore,
Profit < Debt service payments + Dividend payments. (5)
In other words, the Ponzi finance unit must depend practically on borrowing to service
debt and to pay dividends. According to the Minskian literature, Ponzi finance has the
most fragile financial structure. By dividing equations (2)–(5) with capital stock and
arranging them, we obtain FFI-1’s criteria.
3.1.2 Financial fragility index 2. I also employ Minsky’s original definition of margins of
safety. The robustness or fragility depends on the size and strength of margins of safety
(Minsky, 2008, p. 233). Minsky presents his arguments about financial fragility in a
scattered manner in his insightful studies. Therefore, although his taxonomy for hedge,
speculative and Ponzi finance positions is frequently cited to describe financial fragil-
ity, identifying the most significant definitions of these positions is not straightforward.
The most formal definition, I believe, appears in appendix A: Financing Structures of
Stabilizing an Unstable Economy, where he employs the margins of safety to identify
financial fragility (Minsky, 2008, appendix A). I adopt these criteria because they cover
both flow and stock terms and are explained in a formal manner.
Minsky (2008) characterised the financial fragility of an economic unit based on
three margins of safety: cash-flow margin τ, capital value margin μ and margin pro-
vided by the liquid asset kicker η. First, I define financial fragility index 2 in terms
of the capital value and liquid asset kicker margins of safety. Second, I explain how
I derive the index and relate it to Minsky’s statements.
The definition of financial fragility index 2 is as follows:
FFI-2 (margins of safety)

Hedge: The economic unit is a hedge unit if the capital value margin of safety
•
is μ > 1 and the liquid asset kicker is η > 1.
Speculative: The economic unit is a speculative unit if the capital value margin
•
of safety is μ ≥ 1, but the liquid asset kicker is 0 < η ≤ 1.
Ponzi: The economic unit is a Ponzi unit if the capital value margin of safety is
•
μ < 1, regardless of the value of the liquid asset kicker.
I calculate the capital value margin μ in FFI-2 is as follows. Define CC as the contrac-
tual cash payment commitments on debt, Q as the average (or expected) quasi-rent
and σ Q2 as its variance. Minsky employs a scalar variable λ to express the impact of the
fluctuation in quasi-rent. However, his definition does not explain the role of this vari-
able clearly. Therefore, I normalise the variable to λ = 1 in order to calculate Q - λσ Q2
in the empirical analysis. Minsky also introduced a discount operator K to obtain the
present value of the variables. The subscript i denotes a period in his formalisation, but
I assume this away to simplify the explanation below.
592 H. Nishi
In Minsky’s argument, the capital value margin of safety is obtained by Pk = μK(CC).
Here, Pk represents the capitalised value of the expected quasi-rent, calculated as
Pk = K (Q - λσ Q2 ) . Thus, the capital value margin of safety is the ratio of the capital-

ised value of contractual cash payment commitments on debt to the capitalised value
of the expected quasi-rent. That is,
K (Q - λσ Q2 )
µ= (6)
K (CC )
Here, a higher value of μ denotes a greater margin of safety.6 Minsky (2008) defined
financial fragility using the capital value margin of safety.
I define thresholds for FFI-2 based on Minsky’s statements about equation (6). For
a hedge unit, the capitalised value of expected quasi-rent always exceeds the capitalised
value of contractual cash payment commitments on debt. For a speculative unit, this
margin is also greater than unity, but it may depend on the discount rate and the period.7
Because it is difficult to detect such periods and discount rates precisely, I define the capi-
tal value margin of safety μ as not being less than unity in the case of hedge and speculative
finance. Minsky doubted that Ponzi finance satisfies Pk > K(CC) (Minsky, 2008, p. 378).
That is, the capitalised value of contractual cash payment commitments on debt exceeds
the capitalised value of expected quasi-rent for a Ponzi finance unit without exceptional
periods. Hence, the value of μ is smaller than unity in the case of Ponzi finance.
The margin of safety provided by the liquid asset kicker is
η = [( K (CC ) + Eq - PK K )/K (CC )], in simple form. This measures the liquid assets-
to-liabilities ratio on the balance sheet. In general, the higher this ratio for an eco-
nomic unit, the more robust it is against accidental financial shocks. In defining the
liquid asset kicker, Minsky emphasises balance sheet conditions to cover an accidental
deterioration in cash flow. Citing Minsky’s original statements, I derive the following
implications for this margin of safety:
However, accidents (and recessions) can happen, and the cash flows from operations may fall
short of anticipations of and of the amount required by commitments on debts. To protect
against such possibilities, a unit will own money and marketable financial assets beyond what
is need for transactions. As Keynes noted, it is convenient (as an implicit insurance policy) to
hold assets in the form in which debt are denominated. Thus, a balance sheet of a hedge finance
investor will include ηK(CC) of money or of other liquid assets in addition to the PkK of capital
assets; this money or liquid assets are not needed by the operation of the unit. The balance sheet
of a hedge unit can be characterized by
6
The cash-flow margin τ is the inverse of the capital value margin μ if we assume away the discount. The
margin of safety in cash flow τ is obtained as CC = τ (Q − λσ Q2 ) , which is arranged as follows:
CC
τ= .
Q − λσ Q2
Thus, the cash-flow margin τ represents the inverse of the capital value margin μ in the current and
realised value terms. The smaller the cash-flow margin, the more financially stable is the economic unit is.
However, there is a difference between the cash-flow margin τ and the capital value margin μ, which is the
existence of a discount rate. This study assumes away the role of the discount rate for reasons discussed later.
7
Minsky also noted that CC > Q + λσ 2 is established for some periods (e.g. for the earlier periods of a
Q
project), but thereafter (e.g. for the latter periods of a project), CC ≤ Q − λσ Q2 is established under specula-
tive finance. However, detecting the exact period that causes this change in the sign of the inequality in the
empirical analysis is challenging. Therefore, I focus on CC ≤ Q − λσ Q2 to calculate the capital value margin
of safety for speculative finance.
Pk K + hK (CC ) = K (CC ) + Eq , h 1
where Eq is the equity and η, which will be called a liquid asset kicker, is the measure of the

margin of safety in assets superfluous to operations.
(Minsky, 2008, p. 372)
The threshold for the liquid asset kicker in FFI-2 is derived by adjusting Minsky’s
argument. According to Minsky, for a hedge unit, the liquid asset kicker η is between
zero and unity or is greater than unity for all periods (Minsky 2008, p. 373). In con-
trast, for a speculative unit, the liquid asset kicker is less than unity for some periods
(Minsky, 2008, p. 377).8 However, if we follow his argument, when η is less than unity,
it cannot clearly distinguish between hedge and speculative units. Thus, I offer a clear
threshold to distinguish between the two. That is, for hedge and speculative finance
units, the liquid asset kickers are η > 1 and 0 < η ≤ 1, respectively. It is natural that
the hedge finance position, being the most robust, should be detected by a stronger
condition than that of the speculative finance position.9 With regard to Ponzi finance,
Minsky did not explicitly refer to the liquid asset kicker η; for the balance sheet condi-
tions, he only mentions that Ponzi finance involves a continuous erosion of equality
dEq/dt < 0 over time (Minsky, 2008, p. 379). Because the criterion for a Ponzi scheme
in terms of the liquid asset kicker is unclear, I distinguish a Ponzi unit by exclusively
using the capital value margin of safety rather than using the liquid asset kicker.
Note that to calculate the margins of safety, I make two assumptions, for simplicity,
that are departures from Minsky’s original formulation. First, I define financial fragility
for each year without considering future periods and discount rates. Second, I conse-
quently consider financial fragility based on the definition of current and realised value.
These assumptions mean that the FFIs in this study provide information based on past
and present financial fragility. For instance, for the first assumption, Minsky (2008)
defined hedge finance as a position in which the quasi-rent is sufficiently larger than
the contractual cash payment commitments on debt for all periods. He also considered
different discount rates and certain periods, during which the financing units expect cash
payments on debt to exceed cash receipts from operations, to define speculative and
Ponzi positions. Therefore, shifts in discount rates can be a key determinant of fragility.
However, because it is not possible to ascertain these periods and to calculate different
discount rates, I simply capture financial fragility by focusing on annual financial state-
ments. For instance, with regard to the second assumption, Minsky (2008) employed
the capitalised value (present value) of the expected quasi-rent and the cash payment
commitments by capitalising operator K in his financial fragility taxonomy. However,
8
Minsky (2008, p. 377) mentions the periods during which speculative financing units expect cash pay-
ments on debt to exceed cash receipts from operations. For such periods, from i = 0 to n, the balance sheet
of speculative financing units is
n
Pk K + η∑ (CCi ) = K (CC ) + Eq , η < 1.
i =0
This is Minsky’s original definition. However, because it is difficult to detect such periods, I simply use
the basic definitions mentioned above.
9
Indeed, Minsky is also ambiguous with regard to the capital value margin of safety for hedge and
speculative units because his criterion for capital value, μ, can only weakly distinguish between these units.
Therefore, the threshold for the liquid asset kicker η defined in this study plays a crucial role in distinguish-
ing between hedge and speculative units.
594 H. Nishi
it is not possible to calculate the capitalised value in an empirical analysis because our
data do not let us distinguish between the types of capital assets and debt items, or how
long they generate future profit and debt service. Moreover, Minsky did not give an

exact form of the capitalising operator K. These assumptions used to calculate the FFIs
may be severe, but they are necessary for the empirical analysis.
3.2 Data and definition of the variables

To analyse the Japanese economy empirically, the current study employs the Financial
Statements Statistics of Corporations by industry, published by the Policy Research Institute,
Ministry of Finance, Japan. This is one of the most credible sources of data in Japan when
investigating sectoral economic performance. In these statistics and in the current study,
‘sector(al)’ refers mainly to an industry sector, defined according to the Japan Standard
Industrial Classification. The annual survey data include important financial information
from balance sheets and profit and loss statements. Hence, these statistics enable us to
capture the financial position of sectors in terms of both cash flow and stock terms.
In these statistics, I use financial data on all industries (except Finance and
Insurance), which I divide into manufacturing and non-manufacturing sectors (each
with 16 subsectors). I also classify a firm’s capital size into one of three sizes: small
(¥10–100 million), medium (¥100 million to ¥1 billion) and large (¥1 billion and
more). Table A1 summarises the main sectors (manufacturing and non-manufactur-
ing) and their subsectors. Thus, there are two main sectors, each with 16 subsectors,
and three capital sizes. The six sector/size categories form the basic units of the secto-
ral analysis in this study. Focusing on this level of disaggregation enables the sectoral
analysis to reveal evidence of financial fragility dynamics in Japan.
The samples cover the period 1975–2015, for several reasons. First, Japan enjoyed a
high economic growth era from 1955, driven by the real side of the economy, including
a good circle of investment, growth and productivity improvement (Yoshikawa, 2002).
This era ended in 1973, after which Japan began to suffer from occasional financial
panic. Second, and most importantly, the Financial Statements Statistics of Corporations
before 1975 did not record certain important financial variables for some sectors.
Hence, limiting the sample to after 1975 provides sufficient data on the important
financial variables to investigate financial fragility. Finally, the 2015 statistics are the
latest data and, therefore, this study can present the most up-to-date analysis.
To obtain the financial variables defined in the FFI, I process the data according to
Table 1. From this table, I employ the variables in part (A) to calculate FFI-1. These
variables are normalised by capital stock. The number in parentheses after the data item
is the ID number in the Financial Statements Statistics of Corporations. By applying these
variables to calculate FFI-1, I detect the three stages of financial fragility. I employ the
variables in part (B) to calculate FFI-2, from which I approximate the capital value
margin of safety as the current value term with µ = [(Q - σ Q2 )/CC ] , for the reasons
mentioned above. I calculate σ Q2 as the variance in operating profits during the period
1975–2015 in each sector/size category. I obtain the margin of safety in the liquid asset
kicker using η = [( K (CC ) + Eq - PK K )/K (CC )] . Minsky’s use of K(CC) seems to de-
note liabilities on the balance sheet rather than the capitalised value of contractual cash
payment commitments on debt (Minsky, 2008, p. 372). I use these variables to classify
financial fragility based on the FFIs above. The next section discusses the results.
Table 1. Variables and data sources
(A) FFI-1 based on a cash-flow accounting framework

Variable Definition in Section 3.1.1 Data item in the Financial Statements
Statistics of Corporations
r Profit rate Operating profits (48) divided by

capital stock
g Capital accumulation rate Investment divided by capital stock
iD Debt service per capital Interest expense (68) divided by
capital stock
d Dividends payments per capital Cash dividends (60) divided by capital
stock
(B) FFI-2 based on the margins of safety
Variable Definition in Section 3.1.2 Data item in the Financial Statements

Statistics of Corporations
Q Quasi-rents Operating profits (48)

σ Q2 Variance of quasi-rents Variance of operating profits during
1975–2014 in each sector
CC Contractual cash payment Interest expense (68) plus cash
dividends (60)
PkK Capital assets Fixed assets (147) (205)
K(CC) Debt Liabilities (224) (230)
Eq Equity Net assets (157) (215)
Note: In part (A), capital stock is the average value of tangible fixed assets (148) (206) minus land (12)
(169). Investment is the sum of the increase in capital stock and depreciation expenses (221). In part (B),
the values of capital stock, capital assets, debt and equity are averages of the values at the beginning and the
end of the period.
4. Configuration of financial fragility in Japan

4.1 Overall configuration of financial fragility
Table 2 summarises the frequency of financial fragility by pooling each incident for all
years in each category. Parts (A) and (B) show the frequency of financial fragility per
sector and size, based on FFI-1 and FFI-2, respectively. According to Table 2, specula-
tive finance presents the highest frequency of the three, regardless of the size, sector or
index. In this sense, speculative finance is the most dominant financial position across
industries and sizes.
Comparing the two indices in the same size and sector, FFI-1 better identifies hedge
finance than FFI-2 does (except for the large manufacturing sector), whereas FFI-2
better identifies Ponzi finance than FFI-1 does. Therefore, FFI-2 (based on the mar-
gins of safety index) is stronger than FFI-1 (based on a cash-flow accounting frame-
work index) in terms of identifying financial fragility. Specifically, when I apply FFI-2
to the non-manufacturing sector, this index barely detects any hedge finance.
In terms of size, the small sector realises hedge finance at the lowest frequency of all
sectoral sizes. For example, the distribution of FFI-1 shows that hedge finance represents
12.50% in the small manufacturing sector and 10.68% in the small non-manufacturing
596 H. Nishi
Table 2. Frequency of financial fragility per sector and size (1975–2015)
Size

Sector Fragility Small (%) Medium (%) Large (%)
(A) FFI-1
Manufacturing Hedge 12.50 21.18 17.07
Speculative 66.46 62.20 61.28
Ponzi 21.04 16.62 21.65
Non-manufacturing Hedge 10.68 20.43 24.09
Speculative 53.41 45.43 54.27
Ponzi 35.91 34.15 21.65
(B) FFI-2
Speculative 64.94 69.66 56.25
Ponzi 27.44 19.82 25.61
Speculative 54.11 54.12 62.80
Ponzi 42.79 38.26 32.93
sector. Similarly, the distribution of FFI-2 shows that hedge finance represents only
7.62 and 3.10% in the small manufacturing and small non-manufacturing sectors, re-
spectively. These rates are lower than those of the medium and large sectors.
In contrast, the small sector mostly engages in Ponzi finance, with relatively high
frequencies. For example, for FFI-2, Ponzi finance represents 27.44 and 42.79% in
the small manufacturing and small non-manufacturing sectors, respectively, which are
larger than those of the other two sizes. In terms of FFI-1, the small manufacturing
sector has Ponzi finance at a frequency of 21.04%. Although this is a smaller frequency
than the large sector (21.65%), the gap between these two rates is small. Considering
these results, the small sector is relatively fragile in financial terms.
The results by sector show that manufacturing is, in general, more financially robust
than the non-manufacturing sector. First, the manufacturing sector has a higher
frequency of hedge finance than the non-manufacturing sector, in most cases. For
instance, when measured by FFI-1, the small and medium manufacturing sectors have
hedge finance values of 12.50 and 21.18%, respectively, which are higher than the
values of 10.68 and 20.43%, respectively, for the non-manufacturing sector. The large
sector is an exception when measured by FFI-1. Here, hedge finance is more fre-
quent in the non-manufacturing sector (24.09%) than it is in the manufacturing sector
(17.07%). However, this is not the case when measured by FFI-2. The distribution of
FFI-2 indicates that the frequency of hedge finance in the non-manufacturing sector
is monotonically lower than that in the manufacturing sector, regardless of capital size.
Second, in general, the non-manufacturing sector records higher frequencies of
Ponzi finance than the manufacturing sector does. For instance, when measured by
FFI-1, the manufacturing sector has Ponzi finance values of 21.04%, and 16.62% for
the small and medium sectors, respectively, compared to values of 35.91 and 34.15%,
respectively, for the non-manufacturing sector. Although FFI-1 indicates no substan-
tial difference for large firms, the distribution of Ponzi finance for this size becomes
clearer when measuring it by FFI-2 (i.e. 25.61 vs. 32.93%). Thus, in general, the non-
manufacturing sector is more financially fragile than the manufacturing sector.
Observing both size and sector, small firms in the non-manufacturing sector are the
most financially fragile. Overall, the small sector has the lowest frequency of hedge
finance and the highest frequency of Ponzi finance. In addition, hedge finance appears

more often in the manufacturing sector than in the non-manufacturing sector, in most
cases, whereas Ponzi finance is more frequent in the non-manufacturing sector than it
is in the manufacturing sector.
4.2 Evolution of financial fragility

Figures 2 and 3 present the number of subsectors that realised hedge, speculative
and Ponzi finance in each year of the sample period. Although the distribution in
Table 1 reports the observations for all years, Figures 2 and 3 dynamically consider the
number of observations in each year. The figures also present business cycles, where
the recession periods (peak to trough) are shaded, according to the Reference Dates of
Business Cycles produced by the Cabinet Office. Figures 2 and 3 employ FFI-1 and
FFI-2, respectively, to present the numbers of subsectors.
Overall, speculative finance occurs in many sectors. In addition, the following obser-
vations follow from Figures 2 and 3. First, the number of subsectors using hedge
finance increases during expansions. Specifically, many subsectors record hedge
finance regardless of the size and sector after 2002. Indeed, the number of subsectors
using hedge finance increased, especially for large sectors, after 2002 compared with
previous expansion periods.
Second, in contrast, the number of subsectors using Ponzi finance increases during
recessions. This phenomenon is common, especially during the periods 1991–93 (the
burst of the bubble), 1997–98 (Japanese financial crisis) and 2007–08 (global financial
crisis). In particular, the recession of 2007–08 was so severe that the number of subsec-
tors employing speculative or hedge finance and Ponzi finance reversed in many sectors.
Third, before the late 1990s, financial positions changed mainly between speculative and
Ponzi finance, whereas the number of subsectors using hedge finance was relatively stable.
This was especially apparent in non-manufacturing sectors. In contrast, especially after the
2002 expansion, the number of subsectors recording hedge finance began to increase. This
trend is common for most observations, except for the large non-manufacturing sectors
measured by FFI-2 (Figure 3F). That is, firms in each subsector and of each size began to
be more financially prudent after experiencing the severe depression of the 1990s.10
Financial fragility is an evolutionary process, and each stage of fragility is a dynamic
process rather than an equilibrium. How does each position change from one stage to
another? By calculating a transitional probability matrix that depicts the probability of
moving from one position to another in one time step during the period 1975–2015,
I investigate the dynamics of financial fragility in more detail. Tables 3 and 4 show the
results using FFI-1 and FFI-2, respectively.
10
Hedge finance is more frequent since 2002 because firms may have become prudent in terms of oper-
ating independently of bank borrowing. This is a lesson from the financial crisis of 1997, when large banks
such as Hokkaido Takushoku Bank and Yamaichi Securities went bankrupt owing to accumulated bad
loans. The burst of the bubble also harmed firms’ cash management because of the severe credit crunch.
Consequently, firms changed their attitude from one of borrowing to one of accumulating internal funds
through realised profits in order to decrease their dependence on banks. Although the financial crisis was
eventually solved by the injection of public money in large banks such as Resona Bank in 2003, firms’ behav-
iour, which was once prudent, did not change significantly. Thus, the net savings of corporate firms became
positive in 1998 at the macroeconomic level, whereas they were negative throughout the post-war period up
to 1997 (Yoshikawa, 2007).
598 H. Nishi
Fig. 2. Evolution of financial fragility for each sector/size: FFI-1

Note: The vertical axis measures the number of subsectors for each financial
position.
Fig. 2. Continued
First, the number of observations for speculative finance positions is the highest,
regardless of the size, sector or index. In addition, the evolution from a speculative
position to a speculative position is shown to be the most likely. Hence, speculative
positions show the most persistent characteristics.
600 H. Nishi
Fig. 3. Evolution of financial fragility for each sector/size: FFI-2

Note: The vertical axis measures the number of subsectors for each financial
position.
Fig. 3. Continued
Second, the evolution of financial fragility is, in general, an incremental rather than
a radical process. When starting from a hedge finance position, financial fragility tends
to shift to a speculative finance position more often than it does to a Ponzi finance
position. Conversely, firms starting from a Ponzi finance position tend to shift to a
602 H. Nishi
Table 3. Transitional probability matrix of financial fragility (1975–2015) by FFI-1
T + 1 (next year) No. of

observations
Hedge Speculative Ponzi
(%) (%) (%)
Manufacturing sector
(A) Size: small
T (initial year) Hedge 26.92 69.23 3.85 78
Speculative 13.18 74.35 12.47 425
Ponzi 2.92 43.07 54.01 137
(B) Size: medium
Speculative 17.75 74.25 8.00 400
Ponzi 7.48 35.51 57.01 107
(C) Size: large
Speculative 12.76 75.77 11.48 392
Ponzi 2.17 36.96 60.87 138
Non-manufacturing sector
(D) Size: small
Speculative 8.66 76.12 15.22 335
Ponzi 3.49 24.89 71.62 229
(E) Size: medium
Speculative 13.89 73.61 12.50 288
Ponzi 2.69 21.08 76.23 223
(F) Size: large
Speculative 10.95 83.00 6.05 347
Ponzi 5.00 22.86 72.14 140
speculative finance position rather than to a hedge finance position. Part (A) in Table 3
indicates that when a small sector uses hedge finance in a period, its financial position
shifts to speculative finance in the subsequent period with a probability of 69.23%,
but shifts to Ponzi finance in the subsequent period with a probability of only 3.85%.
In contrast, when this sector employs Ponzi finance in a period, its position shifts to
speculative finance in the subsequent period with a probability of 43.07%, but shifts to
hedge finance in the subsequent period with a probability of only 2.92%. Thus, similar
characteristics appear, regardless of the index, sector or size.
Third, in terms of sectoral size, the larger the size, the longer is the duration of finan-
cial stability. When starting from a hedge finance position, the transitional probability of
remaining in the same position is highest in the large sector, followed by the medium and
small sectors. FFI-1 shows that, for the manufacturing industry, this transitional probabil-
ity for the large sector is 53.46%, followed by 45.11% for the medium sector and 26.92%
for the small sector. The same result is obtained for the non-manufacturing sector, and
when using FFI-2. Therefore, capital size also matters in terms of sustaining financial sta-
bility, and small sectors tend to be less financially sustainable in a dynamic sense.
Lastly, in terms of sectors, the non-manufacturing sector is more financially fragile
than the manufacturing sector in dynamic terms. First, the non-manufacturing sector
Table 4. Transitional probability matrix of financial fragility (1975–2015) by FFI-2
T + 1 (next year) No. of

observations
Hedge Speculative Ponzi
(%) (%) (%)
(A) Size: small
Speculative 5.28 79.86 14.87 417
Ponzi 3.35 37.99 58.66 179
(B) Size: medium
Speculative 4.42 86.95 8.63 452
Ponzi 3.13 36.72 60.16 128
(C) Size: large
Speculative 3.87 83.43 12.71 362
Ponzi 4.29 32.52 63.19 163
(D) Size: small
Speculative 2.67 77.45 19.88 337
Ponzi 0.37 27.21 72.43 272
(E) Size: medium
Speculative 3.78 82.56 13.66 344
Ponzi 0.80 22.80 76.40 250
(F) Size: Large
Speculative 1.49 90.80 7.71 402
Ponzi 0.00 18.40 81.60 212
records Ponzi finance more frequently than the manufacturing sector does. According
to FFI-1 in Table 3, the manufacturing sector realises Ponzi finance positions of 137,
107 and 138 in the small, medium and large sectors, respectively, compared with 229,
223 and 140, respectively, for the non-manufacturing sector. When measured by FFI-
2, the difference in the incidences of Ponzi finance is higher. Second, on this basis,
the transitional probability of remaining in a Ponzi finance position is also higher in
the non-manufacturing sector than it is in the manufacturing sector. FFI-1 indicates
that once both sectors realise a Ponzi finance position, the transitional probability of
remaining in the same position in the next period is 54.01% (manufacturing) and
71.62% (non-manufacturing) in the small sector, 57.01 and 76.23%, respectively, in
the medium sector and 60.87 and 72.14%, respectively, in the large sector. These char-
acteristics are also observed when using FFI-2.11
11
Caballero et al. (2008) argued that the financial problems and stagnation in the 1990s in Japan were
due to zombie firms (unprofitable firms that should exit the market, but that remain owing to government
support). They indicated that the number of zombie firms increased in the non-manufacturing sector (e.g.
wholesale and retail, services and real estate) compared with the manufacturing sector. In addition, using
an econometric analysis, they found that investment and employment for healthy firms decreases as the per-
centage of zombies in the industry increases.
604 H. Nishi
To summarise, the larger the capital size, the more dynamically stable is the finan-
cial structure. The probability of remaining in hedge finance increases with the size of
the sector. In terms of sectors, the non-manufacturing sector is the more financially

fragile in dynamic terms. The non-manufacturing sector records a higher frequency of
Ponzi finance. In addition, once firms in this sector record a Ponzi finance position in
a period, they are more likely to remain in this position over time than are firms in the
manufacturing sector.12
Finally, in addition to these observations, I investigate the overall configuration and
evolution of financial fragility with weights on each subsector, because the 16 subsec-
tors include different asset values and numbers of firms. Table 2 and Figures 2 and 3
may not show the overall share of financial fragility precisely for each category or in
the overall manufacturing and non-manufacturing sectors. Accordingly, there are, of
course, changes in the distribution of financial fragility after incorporating weights.
However, the general characteristics do not change substantially in either of the two
sectors. See Appendices A2 and A3 for further details.
5. Econometric analysis of the determinants of financial fragility

5.1 Main hypothesis and data description
This section detects the determinants of financial fragility for each sector and size
using a panel logistic regression. A logistic model is useful for predicting the probabil-
ity of occurrence for each type of financial fragility. I focus on the probability of using
Ponzi finance and detect its main determinants for different sectors and sizes. The
sample is the same as that in the previous section (see Table A1).
I estimate the panel logistic regression models using the following procedure. First,
to focus on the change in financial fragility, I integrate hedge and speculative finance
into the same category and define two categories for a binary response model (hedge/
speculative finance and Ponzi finance) using FFI-1 and FFI-2. Second, as the potential
determinants of financial fragility, I introduce fluctuations in the output gap, interest
rate on borrowing, capital-to-asset ratio and incidence of financial shocks as explana-
tory variables. Then, I relate the probability of using Ponzi finance to these variables.
These variables are related to Minsky’s (2008) financial fragility, but with a different
emphasis. I elaborate on the hypotheses below the descriptions of the explanatory
variables.
The output gap in each sector captures the effects of economic booms and depres-
sions on financial fragility. For example, Minsky (2008) found that during an eco-
nomic boom, an economy transitions from a stable system to an unstable system
12
It is possible that some Ponzi firms will default and go out of business. Therefore, I also verified whether
there was an increase in the rate of bankruptcy of firms after a rise in the weight of Ponzi finance, using
‘Bankruptcy Data’ from Tokyo Shoko Research, Ltd. These data record time series of the aggregate number
of bankruptcies in Japan. The analysis shows that when there is an increase in the Ponzi weight, there is
also an increase in the number of bankruptcies at the aggregate level. As Figures 2 and appendix A2 show,
for example, Ponzi weights rose significantly during the burst of the economic bubble, the financial crisis
in Japan, and the global financial crisis. In these periods, the number of bankruptcies also increased, from
10,723 to 14,564 during 1991–93, from 16,464 to 18,988 during the Japanese financial crisis of 1997–98
and from 14,091 to 15,646 during the global financial crisis of 2007–08. An increase in the number of Ponzi
units may increase the number of defaults in an economy. The data for this brief analysis are available from
the author upon request.
through more optimistic expectations. Instability emerges when a relatively tranquil
growth phase transforms into a speculative boom. Thus, it is important that we analyse
how a boom leads to the emergence of a fragile and unstable financial structure. If this

prediction holds, an economic boom should induce greater financial fragility, which is
pro-cyclical, from Minsky’s perspective. By letting the output gap represent economic
booms and depressions, I examine whether there is a contemporaneous relationship
between the output gap and financial fragility.
I also test the hypothesis that changes in the interest rate on borrowing accelerate the
degree of financial fragility. Increases in interest rates raise cash-flow commitments.
This led Minsky (2008, pp. 231–2) to state that ‘[a] speculative financing arrangement
can be transformed into a Ponzi finance scheme by a rise in interest or other cost or a
shortfall in income. On the other hand, if earnings are better or costs, especially interest
rates, fall, Ponzi financing may be transformed into speculative financing’. However,
an indirect reverse effect is also plausible. Minsky mentions that an extreme rise in
interest rates may decrease the present value of capital assets and induce decreasing
estimates of the profitability of investment projects. In this case, firms may even aban-
don current investment projects (Minsky, 2008, p. 218). Cutting investment expendi-
ture improves a firm’s cash flow (see Section 3). In the face of a rise in interest rates,
firms may attempt to establish a more prudent financial structure. Thus, the impact of
a change in interest rates can be double-edged in terms of financial fragility.
In addition, I test the effect of the capital-to-asset ratio as a possible determinant
of financial fragility. Following Davis et al. (2017), I employ this ratio as a proxy for a
firm’s size in each category. Minsky (2008, 2016) said little about the size of firms in
relation to financial fragility, although he often mentioned the size of the government.
It is reasonable to include a proxy of firm size because the previous sections suggest
that size matters to financial fragility. Models introducing subsector capital-to-asset
ratios in each sector/size category would help determine whether size also matters as a
determinant of financial fragility within each category.
The basic estimated models consist of these three variables. Finally, other factors,
such as a credit crunch, could potentially drive the financial fragility. Consequently,
financial fragility may affect the output gap itself. To mitigate this possibility, I estimate
all models by controlling for each sector’s FCs, summarised by dummy variables. In
doing so, I also measure the impact of financial shocks on the estimated probability
of financial fragility. If the coefficient of a dummy variable takes a positive sign and
is significant in a category, financial fragility in the category worsens when the FCs
deteriorate.
The main variables are obtained from the Financial Statements Statistics of Corporations.
I calculate the output gap based on value added (item number 73), defined as the ratio
of the cyclical and trend components of value added, both of which I extract using
the Hodrick–Prescott filter. Thus, a boom is an increase in the output gap and a de-
pression is a decrease in the output gap. Interest rates are defined as the interest rate
on borrowing (item number 135). The capital-to-asset ratio is the ratio of total assets
(item numbers 22 and 179) to capital stock.13 The note in Table 1 defines capital stock.
Finally, I construct the FC dummy variable based on a diffusion index of the ‘financial
13
The Financial Statements Statistics of Corporations includes total liabilities and total assets for the begin-
ning and end of the period. Therefore, when calculating these values, I employed the average value of each
period.
606 H. Nishi
conditions’ of small, medium and large sectors. I obtain this diffusion index from the
Bank of Japan (TANKAN). In general, this represents firms’ perceptions of current
credit availability, banks’ attitudes to lending and financing conditions. If perceptions

worsen, the index tends to decrease and be negative; if perceptions improve, the index
tends to increase and be positive. Because the diffusion index is available only as quar-
terly data, I convert it to an annual average. Then, if the average value is less than zero,
the dummy variable takes unity, indicating the presence of financial shocks; if it is
greater than zero, the dummy variable takes the value zero, as a reference case.
Table 5 reports the descriptive statistics of the variables employed in the estimation
after processing the data. As this table shows, the FFIs are transformed into a dummy
variable that takes the value zero if the financial fragility of an economic unit is hedge
or speculative finance, and unity if it is Ponzi finance. I also convert the perception of
FCs to an FC dummy variable. The panel logistic regressions for the probability of
Ponzi finance on the explanatory variables are conducted for both FFI-1 and FFI-2.
5.2 Results
Tables 6 and 7 report the results of the panel logistic regression for the manufacturing
and non-manufacturing sectors, respectively. All models are assumed to include a fixed
or random subsector-specific effect.
In these tables, the APE is the average partial effect of each explanatory variable
on the probability of being Ponzi finance.14 I do not report the results for coefficients
that affect the latent variable because the purpose here is to detect the main determi-
nants of the probability of being in Ponzi finance. The APE captures the impact of the
explanatory variables on the probability and summarises the estimated marginal effect
across the population (Wooldridge, 2010). In other words, it is the average of all mar-
ginal effects. Probability < χ2 reports the result of the likelihood ratio test, where the
null hypothesis is that all coefficients are zero. This hypothesis is rejected for all mod-
els at the 1% significance level. When the selected model is fixed, STATA 14 reports
McFadden’s pseudo-R2. Finally, the Hausman test presents the χ2 statistics in order
to test the null hypothesis. The test is usually employed to select either a random- or
fixed-effects model in panel data analyses. If the null hypothesis is rejected, then the
fixed model is preferred because it gives both consistent and effective parameters.
However, in this study, some models fail to meet the asymptotic assumptions of the
Hausman test and, consequently, the χ2 statistics cannot be obtained appropriately
(denoted as NA). Thus, I present both the fixed- and the random-effects models.15
14
In the logistic regression for the binary response model, the estimated coefficients of the explanatory
variables represent the positive or negative effects on the latent variable that distinguish between the two
categories. They do not directly represent their impact on the probability that a category is realised. To
understand the impact on the latter probability, the marginal effects of the explanatory variables must be
presented. Therefore, I report the marginal effects by APE rather than the estimated coefficients.
15
Presenting both models might seem to be the second-best option compared to choosing one model, be-
cause if there is a correlation between specific individual effects and the explanatory variables, the estimated
parameters in the random-effects model are effective, but not consistent. However, if there is no correlation,
the parameters in the fixed-effects model are consistent, but not effective. Because I present the results
using both models, this possibility is a remaining issue. Note that, comparing the two models in Tables 6
and 7, the APEs for the capital-to-asset ratio are significant and negative in most random-effects models,
whereas those in the fixed-effects model are not necessarily significant. Except for the large manufacturing
sector, when the APEs of the capital-to-asset ratio are significant, the signs are negative. Furthermore, nei-
ther model presents different results in terms of the signs and significance of the APEs for the output gap,
interest rate and FC dummy.
Table 5. Descriptive statistics (1975–2015)
Variables (A) Small (B) Medium (C) Large
Observations Mean SD Min Max Observations Mean SD Min Max Observations Mean SD Min Max
FFI-1 655 0.211 0.408 0 1 655 0.165 0.371 0 1 656 0.216 0.412 0 1
FFI-2 655 0.275 0.447 0 1 655 0.197 0.398 0 1 656 0.256 0.437 0 1
Output gap 655 −0.010 0.150 0.606 0.694 655 −0.005 0.180 −0.651 1.357 656 −0.009 0.168 −1.074 0.656
Interest rate 655 4.514 2.695 1.000 10.700 655 4.375 2.833 0.800 11.600 656 4.470 3.066 0.600 16.500
Asset capital 655 5.046 1.077 2.869 11.183 655 4.887 1.334 2.154 11.360 656 5.361 1.863 2.347 11.803
ratio
FC dummy 655 0.831 0.375 0 1 655 0.463 0.499 0 1 656 0.122 0.327 0 1
Variables (D) Small (E) Medium (F) Large
Observations Mean SD Min Max Observations Mean SD Min Max Observations Mean SD Min Max
FFI-1 606 0.330 0.471 0 1 638 0.326 0.469 0 1 656 0.216 0.412 0 1
FFI-2 605 0.397 0.490 0 1 638 0.367 0.482 0 1 656 0.329 0.470 0 1
Output gap 582 −0.031 0.387 −3.051 4.117 638 0.019 1.359 −20.386 14.523 656 −0.064 1.560 −26.332 21.550
Interest rate 605 4.504 2.675 0.500 10.900 638 4.339 2.660 0.500 18.400 656 4.601 4.518 0.200 95.250
Asset capital 606 4.855 3.107 1.183 20.077 638 5.147 4.298 1.074 23.575 656 7.275 10.510 1.176 93.253
ratio
FC dummy 616 0.826 0.379 0 1 638 0.458 0.499 0 1 656 0.122 0.327 0 1

Table 6. Average partial effects: panel logit regression model (manufacturing sector: 1975–2015)
Manufacturing sector (APE)
(A) Small manufacturing

608 H. Nishi
Model no. A-1 A-2 A-3 A-4 A-5 A-6 A-7 A-8
Dependent FFI-1 FFI-2 FFI-1 FFI-2

variable
Method Fixed Random Fixed Random Fixed Random Fixed Random
Output gap −0.731*** −0.488*** −0.260* −0.409*** −0.536** −0.510*** −0.640*** −0.443***
(0.223) (0.118) (0.149) (0.112) (0.245) (0.119) (0.164) (0.114)
Interest rate 0.005 −0.000 −0.003 −0.002 0.002 −0.004 −0.008 −0.008
(0.009) (0.005) (0.003) (0.005) (0.006) (0.006) (0.008) (0.006)
Asset capital −0.036* −0.043*** −0.040*** −0.040*** −0.001 −0.057*** −0.061** −0.057***
ratio (0.020) (0.006) (0.009) (0.006) (0.021) (0.010) (0.024) (0.009)
FC dummy 0.250*** 0.142*** 0.308*** 0.182***
(0.082) (0.050) (0.092) (0.049)
Sample size 614 655 655 655 614 655 655 655
Log likelihood −232.53 −284.81 −262.51 −318.13 −222.30 −279.66 −253.21 −309.02
Probability > χ2 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000
AIC 471.05 577.63 531.02 644.26 452.60 569.33 514.41 628.04
Pseudo-R2 0.052 NA 0.053 NA 0.094 NA 0.086 NA
Hausman test χ2(3) = 0.85 χ2(3) = 2.09 χ2(4) = 9.54** NA

Table 6. Continued
(B) Medium manufacturing
Model no. B-1 B-2 B-3 B-4 B-5 B-6 B-7 B-8

variable
Output gap −1.049*** −0.712*** −1.121*** −0.673*** −0.766*** −0.651*** −0.979*** −0.633***
(0.219) (0.114) (0.155) (0.108) (0.249) (0.133) (0.160) (0.106)
Interest rate 0.056*** 0.036*** 0.055*** 0.031*** 0.039*** 0.033*** 0.045*** 0.028***
(0.012) (0.006) (0.008) (0.006) (0.013) (0.006) (0.009) (0.005)
Asset capital −0.013 −0.060*** −0.061** −0.065*** 0.002 −0.051** −0.037 −0.063***
ratio (0.027) (0.017) (0.024) (0.009) (0.018) (0.024) (0.030) (0.013)
FC dummy 0.108*** 0.064** 0.178*** 0.090***
(0.040) (0.029) (0.042) (0.030)
Sample size 614 655 614 655 614 655 614 655
Log likelihood −150.88 −207.99 −171.15 −224.75 −146.03 −205.77 −164.14 −220.14
Probability > χ2 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000
AIC 307.76 423.99 348.30 457.51 300.05 421.55 336.29 450.28
Hausman test NA NA NA χ2(4) = 2.88

Table 6. Continued
(C) Large manufacturing

610 H. Nishi
Model no. C-1 C-2 C-3 C-4 C-5 C-6 C-7 C-8

variable
Output gap −0.777*** −0.827*** −1.132*** −0.852*** −0.676*** −0.796*** −1.093*** −0.853***
(0.241) (0.132) (0.125) (0.110) (0.230) (0.159) (0.154) (0.111)
Interest rate 0.023*** 0.020*** 0.029*** 0.018*** 0.013** 0.012** 0.017** 0.009*
(0.007) (0.005) (0.006) (0.005) (0.006) (0.005) (0.007) (0.005)
Asset capital 0.023** −0.030* −0.017 −0.041*** 0.028*** −0.021 −0.001 −0.036***
ratio (0.009) (0.017) (0.023) (0.009) (0.005) (0.020) (0.022) (0.010)
FC dummy 0.154*** 0.161*** 0.299*** 0.217***
(0.058) (0.048) (0.063) (0.047)
Sample size 615 656 615 656 615 656 615 656
Log likelihood −216.27 −278.53 −241.25 −298.29 −208.34 −271.88 −229.38 −286.96
Probability > χ2 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000
AIC 438.54 565.07 488.49 604.59 424.68 553.76 466.76 583.93
Hausman test χ2(3) = 255.83*** χ2(3) = 1.06 NA χ2(4) = 0.25
Note: The table presents the APE (average partial effect) of each variable on the probabilities of Ponzi finance. STATA 14 was used to estimate the panel logistic
regression. Fixed and random indicate the fixed-effects and random-effects models, respectively. The z-values are given in parentheses below the APE. The pseudo-R2
is McFadden’s R2 in the fixed-effects model, which is not computed for the random-effects models estimated using the maximum likelihood method in STATA 14.
AIC is Akaike’s information criterion. Hausman test presents the χ2 statistics, and NA means the statistics that cannot be calculated because the model fitted on these
data fails to meet the asymptotic assumptions of the Hausman test.
*p < 0.1, **p < 0.05, ***p < 0.01.

The first row in Tables 6 and 7 shows the APE of the output gap for the probability
of Ponzi finance. The estimated values show the sharply contrasting result between the
manufacturing and non-manufacturing sectors. For the former (Table 6), the APEs

of the output gap for the probability of Ponzi finance are negative and significant at
the 1% level in most cases. That is, a contemporaneous rise in the output gap (i.e. an
economic boom) leads to a lower probability of Ponzi finance. Financial fragility is a
countercyclical phenomenon in the manufacturing sector in Japan, meaning that busi-
ness cycle expansions decrease the probability of Ponzi finance, whereas business cycle
downturns increase this probability. In the latter case, the estimations for the non-
manufacturing sector (Table 7) indicate that the APEs of the output gap for the prob-
ability of Ponzi finance are not significant in all models, even at the 10% level. Thus,
there is no statistically significant relationship between the contemporaneous change
in the output gap and the probability of Ponzi finance in Japan’s non-manufacturing
sector.16
A rise in interest rates runs the risk of increasing the possibility of financial fragility.
Except for the small manufacturing category, the APEs are positive and significant
in the manufacturing sector. As noted by Minsky, a rise in costs resulting from an
increase in interest rates is more likely to transform these financial positions to Ponzi
positions. In contrast, the APEs for the small manufacturing category are all statis-
tically insignificant. Thus, a change in interest rates does not statistically affect the
probability of Ponzi finance in this sector. For the non-manufacturing sector, Table 7
shows that the APEs are positive and significant for all models. Thus, in terms of the
probability of Ponzi finance, a rise in interest rates has a statistically significant effect
of aggravating financial fragility in the non-manufacturing sector, for all sizes of firms.
The APEs in the third row of each category present the impact of the capital-to-asset
ratio on the probability of Ponzi finance. The current study cannot identify its impact
on financial fragility in the large manufacturing sector because the APEs are both
negative and positive when they are significant, as shown in models C-1, C-2, C-4, C-5
and C-8. However, with the exception of this category, an increase in asset size gener-
ally helps to restrain financial fragility. When the APEs are significant, their signs are
necessarily negative. It implies that the asset size within each category matters in terms
of preventing financial fragility. Thus, if subsectors’ capital-to-asset ratios in a category
increase, there is less possibility of financial fragility in that category.
Finally, the APEs for the FC dummy provide interesting and expected evidence
based on models 5–8, where they are positive and significant at least at the 5% level
in all categories. Recall that this dummy variable is constructed based on the diffusion
index from an FC perspective; that is, it is a composite index of available liquidity and
banks’ attitudes to lending to firms in each category. Thus, the results imply that a fi-
nancial shock makes financial fragility more likely. In addition, when controlling the
basic models (models 1–4) using the FC dummy, the sign and significance of the other
three variables do not change significantly. That is, the output gap in the manufactur-
ing sector remains negative and significant, while that for the non-manufacturing sec-
tor is not statistically significant. The signs and significance for the interest rate and
16
Although they examine the leverage ratio rather than Ponzi finance, Lavoie and Seccareccia (2001)
argue that this ratio could rise or fall during an economic expansion and present relevant empirical evidence
for advanced countries. Focusing on both the micro- and macroeconomic aspects, they explain that because
an economic expansion also increases firms’ profits at the macro level, it does not necessarily depend on
debt finance.
Table 7. Average partial effects: panel logit regression model (non-manufacturing sector: 1975–2015)
Non-manufacturing sector (APE)

612 H. Nishi
(D) Small non-manufacturing
Model no. D-1 D-2 D-3 D-4 D-5 D-6 D-7 D-8
Dependent variable FFI-1 FFI-2 FFI-1 FFI-2
Output gap −0.032 −0.011 −0.075 −0.046 −0.028 −0.012 −0.063 −0.045
(0.064) (0.047) (0.066) (0.049) (0.046) (0.046) (0.048) (0.046)
Interest rate 0.035*** 0.020*** 0.028*** 0.017*** 0.025*** 0.016*** 0.019*** 0.012**
(0.008) (0.006) (0.008) (0.006) (0.007) (0.006) (0.006) (0.006)
Asset capital ratio −0.017 −0.038*** −0.016 −0.026*** −0.007 −0.042*** −0.005 −0.029**
(0.019) (0.010) (0.015) (0.009) (0.015) (0.012) (0.012) (0.012)
FC dummy 0.163*** 0.090** 0.185*** 0.125***
(0.044) (0.045) (0.041) (0.042)
Sample size 582 582 582 582 582 582 582 582
Log likelihood −238.55 −291.41 −265.11 −318.86 −233.56 −289.40 −257.66 −314.70
Probability > χ2 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000
AIC 483.10 590.83 536.22 645.73 475.11 588.81 523.33 639.40
Hausman test χ2(3) = 8.82** χ2(3) = 1.75 χ2(4) = 20.11*** χ2(4) = 10.09**

Table 7. Continued
(E) Medium non-manufacturing
Model no. E-1 E-2 E-3 E-4 E-5 E-6 E-7 E-8
Output gap −0.008 −0.006 −0.005 −0.004 −0.006 −0.005 −0.004 −0.004
(0.013) (0.008) (0.014) (0.009) (0.010) (0.007) (0.011) (0.008)
Interest rate 0.073*** 0.046*** 0.071*** 0.047*** 0.063*** 0.042*** 0.063*** 0.043***
FC dummy 0.101*** 0.057*** 0.128*** 0.079***
(0.026) (0.021) (0.029) (0.024)
AIC 438.98 565.53 458.97 581.90 429.81 560.21 446.25 572.69
Hausman test NA χ2(3) = 7.75* χ2(4) = 20.08*** χ2(4) = 9.54**

Table 7. Continued

614 H. Nishi
(F) Large non-manufacturing

Model no. F-1 F-2 F-3 F-4 F-5 F-6 F-7 F-8
Output gap −0.027 −0.014 −0.02 −0.012 −0.026 −0.013 −0.018 −0.011
(0.021) (0.010) (0.015) (0.009) (0.023) (0.010) (0.016) (0.009)
Interest rate 0.044*** 0.019*** 0.044*** 0.022*** 0.039*** 0.016*** 0.038*** 0.018***
(0.005) (0.004) (0.006) (0.005) (0.006) (0.004) (0.007) (0.005)
Asset capital ratio 0.000 −0.000 −0.007** −0.004** 0.001 −0.000 −0.007** −0.004**
(0.002) (0.001) (0.003) (0.002) (0.002) (0.001) (0.003) (0.002)
FC dummy 0.135** 0.070** 0.165** 0.098**
(0.065) (0.033) (0.070) (0.041)
Sample size 574 656 615 656 574 656 615 656
Log likelihood −214.53 −276.45 −237.24 −299.70 −212.28 −274.00 −234.32 −296.54
Probability > χ2 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000
AIC 435.06 560.90 480.48 607.40 432.55 558.00 476.64 603.08
Hausman test NA χ2(3) = 11.64*** NA χ2(4) = 7.81*
Note: The table presents the APE (average partial effect) of each variable on the probabilities of Ponzi finance. STATA 14 was used to estimate the panel logistic
regression. Fixed and random indicate the fixed-effects and random-effects models, respectively. The z-values are given in parentheses below the APE. The pseudo-R2
is McFadden’s R2 in the fixed-effects model, which is not computed for the random-effects models estimated using the maximum likelihood method in STATA 14.
AIC is Akaike’s information criterion. Hausman test presents the χ2 statistics, and NA means the statistics that cannot be calculated because the model fitted on these
data fails to meet the asymptotic assumptions of the Hausman test.
*p < 0.1, **p < 0.05, ***p < 0.01.

capital-to-asset ratio remain as they were, although the APEs for the capital-to-asset
ratio lose significance in a few cases (e.g. A-5, B-7, C-6 and E-5).
I summarise the econometric analysis results in this section by comparing them

with the financial fragility in Minsky’s argument. The determinants of financial fragil-
ity differ by sector and size, which an aggregate analysis cannot capture. In particular,
financial fragility in the manufacturing sector is countercyclical, while that in the non-
manufacturing sector is independent of the business cycle. Both results contrast with
Minsky’s argument that financial fragility is pro-cyclical. Thus, for the manufacturing
sector, an economic expansion has a stabilising effect and an economic depression has
a destabilising effect. A rise in interest rates statistically increases the probability of
financial fragility in the medium and large manufacturing sectors and in the non-man-
ufacturing sector. This is consistent with Minsky’s argument that an increase in inter-
est rates may transform the financial fragility of an economic unit into Ponzi finance.
Conversely, the probability of Ponzi finance is statistically independent of a change
in interest rates for the small manufacturing category. Although Minsky does not say
much on this in his main works, the capital-to-asset ratio is a determinant of financial
fragility within each sector/size category in most cases. With the exception of the large
manufacturing sector, the larger the capital-to-asset ratio in each category, the lower
is the possibility of financial fragility. These impacts remain, even when controlling for
deterioration in perceived FCs. The impact of the FC dummy is almost unique, except
for the large manufacturing sector. Here, financial fragility in a category worsens when
perceptions deteriorate, as expected.17
6. Conclusion
Although many theoretical analyses of Minsky’s financial fragility argument exist, empiri-
cal applications are rare. To bridge the gap between theory and reality, this study esti-
mated financial fragility in non-financial sectors in Japan during the period 1975–2015 by
constructing FFIs based on a cash-flow accounting framework and on margins of safety.
The empirical analysis yielded several findings. During the period 1975–2015, the
speculative finance position was the most dominant and persistent in the Japanese econ-
omy, regardless of the industry sector or company size. In terms of hedge and Ponzi
finance, small firms are more financially fragile, use Ponzi finance more frequently than
medium and large sectors do, in most cases, and use hedge finance less frequently than
the two larger sectors do. By industry sector, the non-manufacturing sector is, in general,
more financially fragile than the manufacturing sector, which uses hedge finance more
frequently than the non-manufacturing sector in most cases. By contrast, the non-manu-
facturing sector uses Ponzi finance more frequently than the manufacturing sector does.
From a dynamic perspective, first, speculative finance has a dynamically dominant and
persistent character. Second, the number of subsectors using hedge finance increases dur-
ing economic expansions, and more subsectors employ Ponzi finance during recessions.
17
The discussion paper version of the current study also investigates the potential effects of the reten-
tion rate and the debt ratio on the probability of using Ponzi finance for the period 1975–2014, following
Minsky’s argument. For example, a rise in the retention rate contributes to establishing a more stable finan-
cial structure for firms of all sizes in both the manufacturing and the non-manufacturing sectors. However, a
rise in the debt ratio causes the financial structure to deteriorate in most sectors and for most sizes, with the
exception of medium firms in the manufacturing sector. The paper is available at http://www.econ.kyoto-u.
ac.jp/dp/papers/e-16-007.pdf.
616 H. Nishi
Third, financial fragility is a gradual process; it is rare for hedge finance to suddenly trans-
form into Ponzi finance, or vice versa. Fourth, size matters in terms of sustaining finan-
cial stability. When starting from a hedge finance position, the probability of remaining

in the same position is highest in the large sector. Fifth, the non-manufacturing sector
involves dynamic financial fragility. Once this sector reaches Ponzi finance, the probability
of remaining in the same position is higher than that of the manufacturing sector.
Finally, the panel logistic regression analysis reveals both the common and specific
determinants of financial fragility by sector and firm size. For example, a decrease in
interest rates contributes to a more stable financial structure for almost all sectors,
except for the small manufacturing sector. A rise in the capital-to-asset ratio also tends
to establish a more stable financial structure, in general, but this effect is not con-
clusive for the large manufacturing sector. Moreover, the effect of economic booms
differs in the manufacturing and non-manufacturing sectors, contributing to stable
financial structures only in the manufacturing sector. However, financial fragility in the
non-manufacturing sector is statistically independent of business cycles. The effect of
financial shocks shown in the FC dummy variable applies to all sizes and sectors, and
leads to an increase in the probability of Ponzi finance.
Thus, the evolution of financial fragility and its determinants differ by sector and
size in Japan, which existing theoretical and empirical studies do not capture. The evi-
dence from this study offers an important implication that a uniform macroeconomic
policy across all sectors will not necessarily bring about a stable financial structure. For
example, in the non-manufacturing sector, which has a more fragile financial structure
than that of the manufacturing sector, fiscal policy boosting the economy will be inef-
fective, because financial fragility is statistically independent of business cycles in the
non-manufacturing sector. In addition, for the small manufacturing sector, a fall in the
interest rate on borrowing may not restrain financial fragility effectively. Conversely,
this change would contribute to reducing financial fragility for other sector sizes. These
results confirm the importance of sectoral and size differences in financial fragility and,
therefore, in considering policy to prevent financial instability.
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Appendix
A1. Industrial sector
The current study employs the Financial Statements Statistics of Corporations by indus-
try, published by the Policy Research Institute, Ministry of Finance, Japan. I divide all
sectors into manufacturing and non-manufacturing sectors according to this database.
The manufacturing and non-manufacturing sectors each have 16 subsectors. This
database also gives financial data at the industrial sector level according to the capital
size of firms included in each subsector. Using these data, I consider the sector/size
performance in terms of financial fragility (Table A1).
Although this study focuses on financial issues, I exclude the finance and insurance
sectors because they were included in the survey only since 2008. Consequently, it is
not possible to calculate important statistics for this sector to sufficiently consider the
evolution of financial fragility.
A2. Frequency of financial fragility with weights

The frequency rate analysis in Table 2 is based on the number of subsectors in each
financial position for all periods. Because it does not take into account the firm size in
each category, it could produce a misleading result for overall financial fragility. For
example, if there are more firms in the small group than in the large group, overall fra-
gility would actually worsen more in the former group than it would in the latter group.
618 H. Nishi
Table A1. Industrial classification
Manufacturing Non-manufacturing

ID and name Original ID ID and name Original ID
1. Food 109 17. Agriculture, forestry and 105

fisheries
2. Textile and apparel 110, 163, 18. Mining and quarrying of 106
111 stone and gravel
3. Lumber and wood products 112 19. Construction 107
4. Pulp, paper and paper products 113 20. Electricity service 135
5. Printing and allied industries 114 21. Gas, heat and water 136
distribution
6. Chemical and allied products 115 22. Information and 142
communication
7. Petroleum and coal products 116 23. Transport service 131
8. Ceramic, stone and clay 117 24. Water transport 132
products
9. Iron and steel 118 25. Miscellaneous transport 133
10. Non-ferrous metals and 119 26. Wholesale trade 127
products
11. Fabricated metal products 120 27. Retail trade 128
12. Productive machinery 154, 121, 28. Real estate 130
124
13. Electric and IC machinery 122, 145 29. Accommodations and meal 139, 148
services
14. Motor vehicles, parts and 123 30. Services for personal and 140, 141
accessories hobbies
15. Miscellaneous transportation 125 31. Miscellaneous services 1 138, 158, 159
equipment
16. Miscellaneous manufacturing 126 32. Miscellaneous services 2 143
industries
Note: Original ID refers to the ID number of the web data. Some of the original closely related sectors are
combined to obtain sufficient data: textile and apparel consists of textile (110, 111) and the manufacture of
apparel and other finished products made from fabrics and similar materials (163). Productive machinery
includes general-purpose machinery (154), production machinery (121) and business-oriented machinery
(124). Electric and IC machinery consists of electric machinery (124) and information and communication
electronics equipment (145). Accommodation and meal services consists of accommodation (139) and eat-
ing and drinking services (148). Personal services and hobbies consists of living-related and personal services
(140) and services for amusement and hobbies (141). Miscellaneous service 1 combines advertising (138),
pure holding companies (158) and miscellaneous scientific research, professional and technical services (159).
Therefore, I calculate the frequency of financial fragility by employing the average

value of total assets and the number of firms in each sector as firm-size weights.
Because the Financial Statements Statistics of Corporations is an industry-sector data-
base, the total assets and number of firms represent aggregate values in each category.
I calculate the frequency of financial fragility using asset-value weights as follows.
I also use the Financial Statements Statistics of Corporations, where the number of firms
in each subsector is the population of firms (1), and the asset value is the average total
assets as at the end and the beginning of the year (22 and 179, respectively). I calcu-
late the average asset value of a sector/size category in each financial position. Then, by
multiplying the average asset value and the frequency of each position in Table 2, I ob-
tain the asset-value-weighted frequency for each financial position. Finally, by dividing
each frequency by the total frequency of the three positions, I obtain the frequency for
Table A2. Frequency of financial fragility per sector and size with asset-value weights (1975–2015)
Size

(A) FFI-1
Speculative 69.73 64.77 59.71
Ponzi 16.92 10.02 19.02
Non- Hedge 15.82 32.90 24.82
manufacturing Speculative 58.22 43.69 52.12
Ponzi 25.96 23.41 23.06
(B) FFI-2
Speculative 66.00 71.44 52.01
Ponzi 23.07 11.90 23.27
Non- Hedge 5.20 12.53 3.65
manufacturing Speculative 61.24 57.60 65.85
Ponzi 33.57 29.87 30.50
each position using the asset-value weights. Table A2 shows the results. Then, using the
same procedure for the number of firms, I obtain the frequency for each position using
firm-number weights, as shown in Table A3.
In Tables A2 and A3, when measured by FFI-1, the non-manufacturing sector
records a higher rate of hedge finance than the manufacturing sector does at all sizes.
This implies that asset size and the number of firms in those subsectors in the non-
manufacturing sector that use hedge finance occupy a relatively high share, which is
the most prominent difference from the configuration given in Table 2. In contrast,
their asset sizes are not large enough to transform the configuration when measured by
FFI-2. That is, the manufacturing sector has a higher frequency of hedge finance than
the non-manufacturing sector does, in most cases.
For the other parts, the frequency changes after introducing weights, but the results do
not change significantly from the results given in Table 2, at least in the cardinal sense.
For example, speculative finance still presents the highest frequency, regardless of the
size, sector or index. In terms of size, the small sector uses hedge finance the most and
is the lowest of the sectoral sizes (except for FFI-2, compared with the large non-man-
ufacturing sector in Tables A2 and A3). Finally, the non-manufacturing sector employs
Ponzi finance more often than the manufacturing sector does, regardless of sector size.
A3. Evolution of the share in financial fragility, with weights

Figures 2 and 3 count the number of subsectors within each category that use hedge,
speculative and Ponzi finance. However, by the same argument presented in Appendix
A2, these figures may not show the overall evolution of financial fragility precisely in
all manufacturing and non-manufacturing sectors. Therefore, it would be useful to de-
termine the share of financial fragility by considering weights. To do so, I calculate the
composition of financial fragility for the manufacturing and non-manufacturing sectors
by weighting the number of subsectors in each financial position by the average total
asset value or the number of firms. Specifically, this is calculated as follows. First, for
620 H. Nishi
Table A3. Frequency of financial fragility per sector and size with firm-number weights
(1975–2015)

Size
(A) FFI-1
Speculative 68.57 65.31 61.57
Ponzi 18.27 11.04 14.90
Speculative 59.71 46.32 50.97
Ponzi 22.14 22.58 21.24
(B) FFI-2
Speculative 64.50 71.98 51.42
Ponzi 25.60 12.74 18.72
Speculative 63.46 58.48 65.36
Ponzi 29.46 28.63 31.11
the manufacturing and non-manufacturing sectors, I derive the asset value (number of
firms) of the subsectors for the small, medium and large groups when a subsector uses
hedge, speculative or Ponzi finance. I determine the incidence of each financial pos-
ition based on FFI-1 and FFI-2. Then, by summing the asset value (number of firms)
in each financial position for each firm-size group annually, I determine the asset value
(number of firms) in each financial position for the manufacturing and non-manufac-
turing sectors. Finally, by dividing the asset value (number of firms) in each financial
position by the annual total, I obtain the asset (number of firms)-weighted financial
fragility for the manufacturing and non-manufacturing sectors.
Figure A1 shows the evolution of weighted financial fragility for the manufacturing
(upper side) and non-manufacturing (lower side) sectors, based on FFI-1. The left-
hand side of the figure shows the results for asset weights, and the right-hand side uses
firm-number weights. Similarly, Figure A2 shows the evolution of weighted financial
fragility based on FFI-2.
In contrast to expectations, the overall dynamics do not change considerably, even
when accounting for the weights. The dominant configuration is similar to Figures 2
and 3, which report the number of subsectors for each financial position. That is, first,
speculative finance tends to occupy the most important share in both sectors. Second,
the share of hedge finance increases during expansionary periods, which remained
prominent after 2002. Third, the share of Ponzi finance increases during recessions,
such as those in 1991–93, 1997–98 and 2007–08. Both sectors became more finan-
cially prudent after experiencing the severe depression of the 1990s, with an increase
in the share of hedge finance.
There are no significant differences between the performance of each sector/size
in Figures 2 and 3 and that of the manufacturing and non-manufacturing sectors in
Figures A1 and A2. Thus, introducing weights does not affect the basic evolution of
financial fragility. Taking into account the dynamic share of financial fragility using the
method mentioned above, the number of firms and the asset value in each subsector
do not affect the main results described in Sections 4.1 and 4.2.
Fig. A1. Evolution of the share of financial fragility: FFI-1 with weights (manufacturing sector: A and B; non-manufacturing sector: C and D)
Note: The vertical axis measures the share (%) of subsectors weighted by the asset value (left) and the number of firms (right) for
each financial position.

622 H. Nishi
Fig. A2. Evolution of the share of financial fragility: FFI-2 with weights (manufacturing sector: A and B; non-manufacturing sector: C and D)
Note: The vertical axis measures the share (%) of subsectors weighted by the asset value (left) and the number of firms (right) for
each financial position.

An Empirical Contribution To Minsky's Financial Fragility

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An Empirical Contribution To Minsky's Financial Fragility

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Cambridge Journal of Economics 2019, 43, 585–622

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Key words: Minsky, Financial fragility, Margin of safety, Japanese economy

Manuscript received 6 September 2016; final version received 30 April 2018.

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2. Empirical studies of Minsky’s financial fragility

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3. Financial fragility indices

Profits + Borrowings = New investments

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FFI-1 (cash-flow accounting framework)

Profit ≥ New investments + Debt service payments + Dividend payments. (2)

Profit ≥ Debt service payments + Dividend payments. (4)

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Profit < Debt service payments + Dividend payments. (5)

FFI-2 (margins of safety)

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3.2 Data and definition of the variables

(A) FFI-1 based on a cash-flow accounting framework

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r Profit rate Operating profits (48) divided by

(B) FFI-2 based on the margins of safety

Variable Definition in Section 3.1.2 Data item in the Financial Statements

Q Quasi-rents Operating profits (48)

4. Configuration of financial fragility in Japan

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4.2 Evolution of financial fragility

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Fig. 2. Evolution of financial fragility for each sector/size: FFI-1

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Fig. 3. Evolution of financial fragility for each sector/size: FFI-2

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T + 1 (next year) No. of

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T + 1 (next year) No. of

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5. Econometric analysis of the determinants of financial fragility

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Variables (A) Small (B) Medium (C) Large

Variables (D) Small (E) Medium (F) Large

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Manufacturing sector (APE)

(A) Small manufacturing

Dependent FFI-1 FFI-2 FFI-1 FFI-2

Method Fixed Random Fixed Random Fixed Random Fixed Random

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Manufacturing sector (APE)

(B) Medium manufacturing

Dependent FFI-1 FFI-2 FFI-1 FFI-2

Method Fixed Random Fixed Random Fixed Random Fixed Random

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Manufacturing sector (APE)

(C) Large manufacturing

Dependent FFI-1 FFI-2 FFI-1 FFI-2

Method Fixed Random Fixed Random Fixed Random Fixed Random

1. Food 109 17. Agriculture, forestry and 105