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Bubbles in History: Is
There Something To Be Learned?
Issue
Is the stock market currently a bubble waiting to
burst? Professor Kindelberger, a retired professor of
economic history at MIT, thinks so.
A new edition of his classic study, "Manias,
Panics and Crashes" (John Wiley & Sons, 250
pages, $19.95) is out. The following are excerpts from a
review by Thomas Mulligan of the LA Times.
Previous major bubbles include the South Sea fiasco of
1720 in which a British company's Latin American trade
franchise sparked a frenzy for its shares; the 17th
century "tulip mania" in Holland, where even
garden-variety tulip bulbs became objects of frantic
speculation; and the U.S. stock market in 1929 and 1987.
Any Lessons?
Anecdotes
Let’s start with an anecdotal story. According to
the Times, Sir Isaac Newton, the supreme rationalist
regarded as one of history's leading geniuses, saw the
South Sea Bubble for what it was and sold his stake early
at a heartwarming profit of 7,000 pounds, but then
plunged back in, losing a fortune of 20,000 pounds when
the bubble burst.
"Fads"
According to Professor Kindelberger, the public becomes
fixated on "fads." One such fad as described in
the book was when in the high-inflation 1970s, ‘it
used to be that every Friday afternoon, people would see
what happened to the money supply, and the market would
respond up or down. . . Now everything works on interest
rates, the 30-year [U.S. Treasury] bond yield.’
"Fundamentals"
On the other hand, the "fundamentals," such as
earnings, are typically ignored as evidenced in the tulip
mania. The only apparent fundamentals that applied were
the scarcity of the varieties and the beauty of their
blooms. Professor Kindleberger points out that the
"speculative climax occurred in the winter of
1636-37, when the bulbs had already been planted and
wouldn't bloom until spring, and many investors had only
vague descriptions to guide their bidding."
Similarly, in the hunger for shares of South Sea Co.
nearly a century later, "market participants
overlooked that Spain, which claimed all of South
America, had not signed off on the firm's supposed trade
monopoly. A French banker named Martin, proffering his
500-pound investment, reasoned, ‘When the rest of
the world are mad, we must imitate them in some
fashion.’"
Unforeseen Event
A single unforeseen event can cause the bubble to burst.
For example, the U.S. market crash of 1987 was caused in
part, Kindleberger argued, by massive mutual fund
redemption over the preceding weekend. One might
associate a sell off by "insiders" as a
potential reason, but he points out that it was ‘the
peasants who sold.’
Short Memory
Professor Kindleberger ponders why markets don’t
learn. His explanation is that ‘one generation
learns, but then you get a lot of new guys. The question
is, of the people in the market now--they don't remember
1929--but do they remember 1987? It's always the new boys
who need to get a baptism of fire.’ The professor
adds that "each successive group of speculators is
able to persuade itself that its own situation is unique
in history."
A more recent example might be the markets’
reaction to comments made on December 6 by U.S. Federal
Reserve Chief Alan Greenspan that stocks and other asset
markets might be facing "irrational
exuberance." Markets did, however, recover the
following business day from a more than four percent drop
on December 5 in U.S. stocks after major European stock
tumbling. Britain's FTSE 100 index closed down 88.2
points at 3,963. The German DAX index of top shares lost
117.95 points, closing at 2,791.96 points, the biggest
loss since a nine percent tumble after the 1991 coup
against former Soviet President Mikhail Gorbachev.
Sources: LA Times (January 2, 1997),
CNNfn (December 6, 1996)
By Alex Tajirian
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