Peak amplitude: the price multiplier effect

Abstract

From a microeconomic perspective the crucial question regarding the amplitude of speculative peaks can be formulated in following terms. Suppose you have bought diamonds worth one million euros two years ago, assume that in the meanwhile their price has risen by 360 percent, but that in recent weeks there was a sudden 25 percent fall. Will you sell, or rather keep (or even augment) your holding in the hope that the price will soon go up again? In the second case and provided many investors react in the same way, speculation will be fueled and prices will be pushed to even higher levels. In the first case, on the contrary, prices will continue to fall eventually leading to the bubble’s implosion.