The Myth of Economic Bubbles

[z1235]

Jonathan,

I agree with your response, for the most part, and would not like to derail the thread too much. I would only add that, the waves of liquidity that create the booms/busts discussed here can only happen in fiat money (fractional reserve) regimes. As such, they affect whole economies and not only narrow segments of it. The money sloshes around and finds its way into every edifice of the market. By all means, there are plenty of entrepreneurs that were shining since 2002 and are hurting today even though they had nothing to do with the housing market (bakeries, flower shops, travel agents, etc.). A prudent, conservative baker with no loans since 2002 is Group (1). An aggressive baker that borrowed up to his gills at 3% in 2002 and expanded his business into chocolate and restaurants is Group (2) or Group (3) depending on when he started, how much profits he made, and/or whether or not he was able to sell the whole enterprise to someone else before the bust started.

Central and fractional reserve banking socializes the losses within Groups (1) and (2) and privatizes the profits to Group (3), by default, regardless of, and separately from taxation.

Neoclassical,

The Mises quote you posted just reminded me that you forgot to address my question from couple of pages ago. You claimed that: “…if ABCT were true, businessmen would not persist in the same mistake.”. But wouldn’t that render ABCT false, then? If people stopped making the same mistake, thus rendering ABCT false, what reason would people have to keep avoiding the same mistake? And – lacking such reasons (ABCT being false, and all) – wouldn’t they revert to making it again?

Z.

[yessir]

It’s one thing to challenge people to come up with a precise definition that captures our intuition; but it’s another to pretend as if we’re dealing with an empty concept, just because we might not be able to give necessary and sufficient conditions. (For an analogy, it’s hard to define exactly what constitutes “furniture,” but most of us wouldn’t say, “I don’t even know what you mean by that term.”)

This seems to me a defect of our schooling. Had it focused on rigor and precision in thinking, we would make sure our definitions are tight before we start arguing.

[StrangeLoop]

Bob Murphy! Just to get your blood boiling some more: I also agree with Caplan’s defense of Pigovian taxation! (Although, of course, I reject it in practice due to public choice reasons.)

@Murphy

So: an asset bubble occurs when something’s market price is not supported by the “fundamentals,” and (less obvious) when its speculative price increase is due to incorrect forecasts about future price increases. So for example, if speculators think there is going to be war with Iran next month, and that the spot price of oil will shoot up to $300 / barrel, then they would start buying oil right now like crazy. (They would either buy physical oil and stockpile it, or they would buy futures.)

To declare that some price movements are supported by “fundamentals” while others are not begs the question: what are “fundamentals”? Under what circumstances are a small cadre of thinkers wiser than market participants? Can one determine the “fundamental” value of an asset, and how so?

If you know the fundamental value of assets, then you are guaranteed to make riches; I’ll be sure to buy your mutual fund.

@Murphy

People who didn’t forecast war would be baffled. They would see that daily production of oil (i.e. how many barrels were pumped and delivered) greatly exceeded daily consumption. Some might say, “Oil is in a bubble.” But then when war broke out, people would say, “Ah, those wily speculators saw this coming. Go markets!”

Unlike you, I consistently trust the “speculators.”

Let me quote extensively from Scott Sumner:

Now suppose you were a bubble proponent and you starting watching the FLAF when it was down around 7 in late 2002. You watch it double to 14, and say to yourself, hmm, a bit pricey, looks like a bubble might be forming. Then it goes to 21, nearly tripling in value. Now you are really starting to think bubble. It’s mostly in Brazil. But Brazil isn’t China, it grows at about 3%. The joke is “Brazil’s the country of the future, and always will be.” Now it goes to 28, up almost 4 times higher than the 2002 lows. Surely no plausible amount of profit growth can justify that rise. Now the bubble alarms are going full blast. Sell, sell, sell. Except anyone who took your advice would have been a fool. It went to 35, then 42, then 49, then 56, then 63, then over 70.

Now suppose I wrote this post in the spring of 2008. A few months later I’d look like a complete idiot. The FLAF crashed. The bubble theorists would have had their worst fears realized. They’d say “I told you so” even though they would have been wrong, even though the post crash price was still near 28. And now it’s back to 52. What is the fundamental value? For a Rortian pragmatist like me that question is absurdity piled on absurdity. Or what Bentham called “nonsense on stilts.” There is no “fundamental value.” There are only amounts people think it is worth. Individual people, and the market consensus. There are no outside referees like “God” to tell us who is right. We are all alone. All I can say is that the price will continue to fluctuate. I have no idea which way. And at times the bears will make money, and at other times the bulls will come out ahead.

P.S. The course on anarchism is too costly for me, but good luck on its success! (Plus, I have read most of those texts previously, and I’m already a convert!)

[EconomistInTraining]

http://ideas.repec.org/a/eee/dyncon/v8y1984i3p329-340.html

[yessir]

@EconomistInTraining

http://ideas.repec.org/a/eee/dyncon/v8y1984i3p329-340.html

“We know: of course, with regard to the market and similar social structures, a great many facts which we cannot measure and on which indeed we have only some very imprecise and general information. And because the effects of these facts in any particular instance cannot be confirmed by quantitative evidence, they are simply disregarded by those sworn to admit only what they regard as scientific evidence: they thereupon happily proceed on the fiction that the factors which they can measure are the only ones that are relevant.”

[filc]

Sorry to resurrect an old thread, this passage from HA is relevant. In regarding classification of goods.

@Human Action

It is necessary to realize that all economic catagories are related to human action and have nothing at all to do directly with the physical properties of things. Economics is not about goods and services; it is about human choice and action. The praxeological concept of time is not the concept of physics or biology. It refers to the sooner or the later as operatives in the actors’ judgements of value. The distinction between capital goods and consumer’ goods is not a rigid distinction based on the physical and physiological properties of the goods concerned. It depends on the positions of the actors and the choices they have to make