You can be forgiven for forgetting Eiffel 65’s 1999 song ‘Living in a Bubble,’ yet the lyrics resonate aptly within the world of economic bubbles and provides the backdrop for this blog and the theme of ‘Bubble and Bleak.’
What is a Bubble?
Essentially, a bubble is an economic cycle characterised by asset prices which fluctuate far beyond their inherent value. It is driven by exuberant market behavior and is typically followed by a collapse and widespread panic (Allen and Gale, 2000). White (2010) believes the identification of a bubble is simple: asset prices will go up and then back down again rapidly.
“where investors buy an asset not for its fundamental value, but because they plan to resell, at a higher price, to the next investor “
Peter Koudiji of Stanford University defines a bubble
Tulipomania
The easiest place to start with bubbles is at the beginning – 1637 to be precise. ‘Tulip mania’ has been widely regarded as the earliest recording of a financial bubble. During this time the tulip dramatically rose in popularity in the Netherlands and the tulip market became a crucial part of the booming Dutch economy ( Colombo, 2012). As speculators began to trade the tulips for profit, their price escalated. Naturally, this became unsustainable as more people purchased tulips. At the time, it was reported that the average price of the flowers exceeded the annual income of skilled workers and even some houses. Tulip holders instantly became bankrupted as the economy collapsed.
However, recently, many scholars have speculated that this was not a ‘real’ bubble and merely fiction. Thompson (2007) believes that this event did not meet the fundamentals of a bubble and was simply a period were future contracts were converted into option exercise prices. While this may be the case, the tulip mania provides a practical description of a bubble bursting and an important introduction to the blog.
Bibliography
Allen, F. and Gale, D. (2000). Financial Contagion. Journal of Political Economy, 108(1), 1-33.
Colombo, J. (2012). The Dutch “Tulip Mania” Bubble (aka “Tulipomania”). Available at: http://www.thebubblebubble.com/tulip-mania/ [Accessed 4 Feb. 2019].
Thompson, E. A. (2007). The Tulipmania: Fact or Artifact?. Public Choice, 130 (1–2), 99–114.
White, L.J. (2010). Preventing Bubbles: What Role for Financial Regulation? Stern School of Business, New York University.
Bubble and Bleak 