Working Papers

Embrace the ‘Bubble’

Business Week’s Chris Farrell, on why we should welcome so-called ‘bubbles’ in asset prices as a normal part of the functioning of a market economy:

Let’s go back to the dot-com example. What’s remarkable is just how quickly the Internet economy was established during that so-called era of fictitious value. “The conventional wisdom is that the period of exuberance during the boom period—especially 1999 and 2000—was a bubble,” writes BusinessWeek Chief Economist Michael Mandel in his book Rational Exuberance. “It carries connotations of something fragile, which was never quite real in the first place.”

But rather than a bubble, argues Mandel, the second half of the 1990s could just as easily be called an “age of exploration.” “The low cost of capital enabled risk-taking people and companies to try out lots of new ideas simultaneously, and on a large enough scale that they got a fair test,” he writes…

Bubble moralizers greatly underestimate the vital role of speculators and speculative markets in allocating resources toward an economy’s fast-growing sectors and away from stagnant industries.

posted on 13 June 2008 by skirchner in Economics, Financial Markets

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