Abstract
What is a bubble? Most people agree that there was a bubble on the price of an asset after its price has collapsed. In this chapter, we start with a formal definition of bubble and discuss why it is so difficult to assess the existence of bubbles in real time. Then, we briefly review three of the most famous bubble episodes in history (the Dutch Tulipmania , the South Sea Bubble and the Dot-Com Bubble ). Finally, we develop a housing bubble indicator to track past episodes.
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Notes
- 1.
See Brunnermeier (2009) for a short discussion on the specific assumptions behind this decomposition between fundamental and value component.
- 2.
Data on the Nasdaq index is obtained from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/NASDAQCOM.
- 3.
For more information on the boom-bust of Pets.com, read the article in the New York Times (Nov 8th, 2000) https://www.nytimes.com/2000/11/08/business/technology-petscom-sock-puppet-s-home-will-close.html.
- 4.
To be precise, first we run, HPit = time + βi + uit, where βi is a country fixed effect and HPit is the quarterly house price index. Then, we predict HPit using the coefficients of this panel regression. The bubble indicator is one if (i) the deviation is higher than ½*sd(HPit) and (ii) house prices are lower three quarters later.
- 5.
The list of countries covered in the BIS residential property price is the following. Australia, Belgium, Canada, Denmark, Finland, France, Germany, Hong Kong, Ireland, Italy, Japan, Korea, Malaysia, Netherlands, New Zealand, Norway, South Africa, Spain , Sweden, Switzerland, Thailand, UK and the USA .
- 6.
The size of the bubble is computed as a simple average of the deviation from the trend for the countries with the housing bubble indicator equal to one.
- 7.
Other economists have attempted to identify housing bubbles. In an important empirical contribution, Giglio et al. (2016) analyze the housing boom in London in the late 2000s. As we will see in the next chapter, classical rational bubbles can only emerge in infinite time horizon models. The authors take advantage of a peculiar feature of the London housing market to compare the price of an “identical” house under two types of ownership: (i) leaseholds (ownership expires in finite time, often more than 700 years) and (ii) freeholds (there is no expiration date). Thus, theoretically, rational bubbles could only emerge in houses under freehold ownership. Since they do not find a statistically significant difference between the prices of houses under the two types of ownership, they conclude that rational bubbles alone cannot explain the recent housing boom in London. The first thing to remark is that the authors do not rule out the presence of a housing bubble in London. Moreover, although they perform a very interesting exercise, we do not think that their findings rule out rational bubbles as drivers of housing booms. In other words, as we describe in the rest of the book, features of both rational and irrational bubbles seem relevant to describe the recent housing booms.
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Basco, S. (2018). A Brief History of Bubbles. In: Housing Bubbles. Palgrave Pivot, Cham. https://doi.org/10.1007/978-3-030-00587-0_2
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DOI: https://doi.org/10.1007/978-3-030-00587-0_2
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