Modern Economies Are Much More Dependent Than Ever on Finance - In the euro area, total financial assets banking sector roughly doubled from 2003 to 2013 to a total of €57 trillion (almost six times euro area annual GDP)
- In the UK and US, financial assets have surpassed the equivalent of ten times the respective national GDP
- Financial transactions is even larger. For the U.S., this value was 73 times GDP already in 2009, primarily a result of rapid growth in high-frequency trading
Is Too Much Finance Bad for the Economy? - When economies grow on the basis of mass investment in assets with questionable foundations, yet rise in price, the growth is unstable and destined to be of short duration
- Such irrational speculative price rises are called bubbles
The Dutch Tulip Frenzy (Tulip Mania) 1636-37 - Different tulip types had different values
- Mass speculation
- Rapid increase in prices
- peak: March 1637
- some select bulbs sold for several times the yearly income of a skilled craftsman
- shortly thereafter, confidence in their value vanished
- Almost overnight, the tulip market crashed, and many speculators were ruined.
Stock Market Bubble 1929 - “new reality”
- establishment of the Federal Reserve in 1913
- government policies to extend free trade, fight inflation, relaxation of antitrust laws
- 1920s: everyone is buying shares
- consumer debt was taken on to buy stock shares (instead of consumer goods)
- October 1929: the stock market crash
- The Great Depression
Dow-Jones Industrial Stock Price Index for USA, 1914-1942
Source: National Bureau of Economic Analysis
Since the 1970s, Many Other Bubbles Developed… - East Asia 1997
- “Dot-com” stock market bubble 1999/2000
- Housing bubbles in the US, UK, Ireland, Spain and other European countries late 2000s
- Bubbles are characterized by a rapid increase in prices that are not generally accompanied by an equally rapid improvement in economic conditions
- buying begets more buying
- appreciation in the asset values is fleeting
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