Abstract
The United States has now experienced three major wealth bubbles since 1945. The first two peaked in 1999 and 2006, followed by crash and recession. By 2018, peaks were higher than ever, implying new risks that either this third bubble will pop, or returns on investments will fall, or some combination. This article provides data to support the wealth-bubble assertions, suggests that all three bubbles share characteristics and causes unique to a modern period since about 1990 and extending across asset markets, and faults arguments about market timing based on starting points with lower wealth valuations.
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Source Federal Reserve Z101 Tables
Source Financial Accounts of United States (Z1) and calculations by author and Hannah Hassani.
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Notes
See note on then-Federal Reserve Chairman Bernanke’s “double bubble bind.” Government We Deserve blog, https://www.urban.org/sites/default/files/publication/29466/901312-Bernanke-s-Double-Bubble-Bind.PDF.
For example, see Ben S. Bernanke, “Financial panic and credit disruptions in the 2007–2009 crisis,” Brookings Institution blog, September 13, 2018, https://www.brookings.edu/blog/ben-bernanke/2018/09/13/financial-panic-and-credit-disruptions-in-the-2007-09-crisis/.
Since I am using a broad measure of household wealth and looking across markets, I also use a broad measure of income, GDP, and not a measure of earnings, as on stock, for which a more traditional price–earnings ratio is calculated.
End-of-quarter comparisons are available since 1951 and end of year since 1946. The quarterly data since 1951 are used for most purposes here; the graph, going back to 1946, uses annual data until quarterly data are available. Equity ownership counts direct holdings and indirect ownership through investment vehicles such as retirement accounts; the household real estate measure is mainly for household real estate and does not take account of commercial real estate, which is subsumed in residual net worth within other business assets (not shown in graph).
In this article, I do not focus further on a third set of outcomes that are unlikely but at least mathematically possible. Some of the growth in valuations relative to GDP could reflect an expectation of an even further concentration of GDP in the form of profits to owners of capital and a corresponding reduction for labor, as noted above, or a belief that GDP (Y) growth will increase so significantly that a drop in W–Y ratios would be easy to accommodate. It is hard to find empirical or theoretical support for such explanations, though they are not impossible. For instance, neither explains why interest rates would be so low, why the Congressional Budget Office (2019) would project both an increase in wages and salaries as a share of GDP and continued low economic growth, or why real estate values have grown as they have. See discussion below for a more plausible explanation for all three wealth bubbles.
The geometric return is often based on Center for Research in Security Prices or CRSP estimates from 1926 to today, with 1926 often used as “proof” that one can start in a highly valued market and still get a high average return. For example, see CRSP, “Investment Illustrated Charts,” http://www.crsp.com/resources/investments-illustrated-charts.
See “Alternative Measures of Age,” Urban Institute, accessed January 28, 2019, https://www.urban.org/policy-centers/cross-center-initiatives/program-retirement-policy/projects/modernizing-our-retirement-programs/alternative-measures-age.
Greg Ip, “Should You Fear the Yield Curve?”, Wall Street Journal, January 9, 2019, https://www.wsj.com/articles/should-you-fear-the-yield-curve-11547044201.
References
Congressional Budget Office. 2019. The Budget and Economic Outlook: 2019 to 2029. Washington, DC: Government Printing Office. January 28.
Greenspan, Alan. 2008 and 2007. The Age of Turbulence: Adventures in a New World. London: Penguin Books.
Merton, Robert C., and Zvi Bodie. 1995. Financial Infrastructure and Public Policy: A Functional Perspective. In The Global Financial System: A Functional Perspective, by Dwight B. Crane, Kenneth A. Froot, Scott P. Mason, André F. Perold, Robert C. Merton, Zvi Bodie, Erik R. Sirri, and Peter Tufano, 263–82. Boston: Harvard Business School Press.
Minksy, Hyman P. 1992. The Financial Instability Hypothesis. Working Paper 74. Annandale-on-Hudson, NY: Levy Economics Institute of Bard College.
Steuerle, CEugene. 1985. Taxes, Loans and Inflation: How the Nation’s Wealth Becomes Misallocated. Washington, DC: Brookings Institution Press.
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Steuerle, E. The third post-world war II wealth bubble. Bus Econ 54, 108–113 (2019). https://doi.org/10.1057/s11369-019-00120-z
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DOI: https://doi.org/10.1057/s11369-019-00120-z