Right now, someone is getting approved for a loan that probably shouldn't exist. Not because they're irresponsible—but because the bank approving it has forgotten what happens when the music stops. This pattern repeats so reliably that economists have given it a name: the credit cycle.

Understanding this cycle matters because it shapes recessions, housing crashes, and financial crises. It explains why your parents might have lost their home in 2008, and why the same forces are always gathering somewhere in the financial system right now. The mechanics are surprisingly simple once you see them.

Here's a psychological quirk that drives lending disasters: the longer things go well, the more people believe they'll keep going well. Banks that haven't seen many defaults start thinking defaults are rare. Investors who've only known rising markets assume markets mostly rise.

This isn't stupidity—it's human nature backed by spreadsheets. When a bank's loan officers review their recent performance and see minimal losses, their risk models update accordingly. The data says lending is safe. So they lend more freely. They lower their standards just a bit. They offer slightly better terms to win business from competitors doing the same thing.

The cruel irony is that careful behavior during good times looks like missed opportunity. The cautious bank loses market share to aggressive competitors. The conservative investor underperforms. So even people who sense danger often can't act on it—they'd be fired or outcompeted before being proven right. The system rewards optimism until it suddenly doesn't.

Takeaway

Risk feels lowest precisely when it's highest—because good times erase the memory of bad times from both data and decision-making.

Leverage is just a fancy word for using borrowed money to invest. If you buy a house with 10% down, you're leveraged 10-to-1. If that house rises 10%, you've doubled your money. Leverage is magic when assets appreciate.

The problem emerges in reverse. A 10% price drop doesn't just reduce your wealth by 10%—it wipes you out entirely. Your equity is gone. Now multiply this across millions of homeowners, thousands of banks, and billions in interconnected financial contracts. Everyone's leveraged bet depends on everyone else's leveraged bet holding up.

During credit booms, leverage accumulates quietly. Banks borrow to lend more. Investors borrow to buy more assets. Companies borrow to acquire competitors. Each individual decision seems reasonable. But collectively, the system becomes a tower of borrowed money where a small stumble at the base can topple everything above it. The buildup happens over years; the collapse happens in weeks.

Takeaway

Leverage doesn't create risk from nothing—it takes ordinary risks and amplifies them until they can break entire economies.

Economist Hyman Minsky identified a haunting pattern: stability itself creates instability. He argued that long periods of prosperity encourage exactly the risky behavior that ends prosperity. The Minsky Moment is when collective confidence suddenly snaps.

What triggers it varies—a big firm failing, bad news from one market, a fraud exposed. But the trigger matters less than the conditions. Once everyone is leveraged and interconnected, any shock spreads like fire through dry brush. Lenders who were eager yesterday become terrified today. Credit freezes. Assets that were easy to sell become impossible to sell.

The 2008 financial crisis was a textbook Minsky Moment. Housing prices had only gone up for years. Lending standards had eroded. Leverage was everywhere. When housing prices finally dipped, the whole system seized. Banks stopped trusting each other overnight. The word suddenly appears in every crisis account—because credit markets genuinely flip from feast to famine almost instantaneously.

Takeaway

Financial crises feel like surprises because the conditions that cause them are invisible until the moment they're not—hidden in plain sight inside 'normal' prosperity.

The credit cycle isn't a bug in the financial system—it's a feature of how human psychology interacts with money. We forget past pain, chase recent gains, and borrow more than we should when optimism runs high.

Knowing this won't prevent the next crisis. But it might help you recognize when the music is playing loudest and everyone is dancing closest to the edge. That's usually when the smart money quietly heads for the door.