Mapping fragility and financial instability hypothesis in Indonesia : evaluating Ninomiya's model and stabilizing role of Islamic finance

Abstract

Minsky’s Financial Instability Hypothesis suggests that behind the stable market system, there are culminating processes of fragility that are waiting to burst. This hypothesis unveils the meaning behind capitalistic growth, which is followed by characteristics of inequality, distribution problems, and labour market problems. Many research have been conducted to study the meaning behind conceptual thinking of Minsky’s in describing Financial Instability Hypothesis through conceptual interpretation and also empirical study to capture the Minsky’s moment through historical data This study is inspired on how Islamic Economics Scholars describe the position of Islamic Economics and Finance in describing the crises, where in essence crises are the end product of modern capitalism as a form of paradigm shift towards economics system, further suggest Islamic Economics and Finance provide a comprehensive framework to build a moral economics. Therefore, this study took place to examine the evolving structure of financial fragility in Indonesia through the lens of Minsky’s Financial Instability Hypothesis, through an empirical framework that could describe the feedback loop between the capitalist system and behavioural aspects. This study utilizes the GARCH and VAR models to quantitatively analyse the relationship between the behavioural proxy, namely instability of confidence (𝜎 2 ) to describe FIH and its relation to macro-financial data. The findings suggest that the volatility cluster exists even under stable economic growth and causal relation between instability and income suggests broader aspects besides debt level and investment that influence the magnitude of causal interference. However, we found that the contractions experienced by Indonesia differ from one another, aligned with Minsky descriptions of altered landscape. Ultimately, the author simulates the mandatory zakat within the existing GARCH model, and the results suggest that the effectiveness of zakat as a buffer lies in its structure, not in its magnitude. This finding may provide recommendations to the Indonesian government on how the economic buffer should be structured.