CHAPTER 2
A Brief History of Bubbles
Abstract What is a bubble? Most people agree that there was a bubble on the price of an asset after its price has collapsed. In this chapter, we start with a formal definition of bubble and discuss why it is so difficult to assess the existence of bubbles in real time. Then, we briefly review three of the most famous bubble episodes in history (the Dutch Tulipmania, the South Sea Bubble and the Dot-Com Bubble). Finally, we develop a housing bubble indicator to track past episodes. Keywords Asset price bubble Housing bubble
· Fundamental · Expectations ·
2.1 Definition of Bubbles Was there a bubble in the price of tulips in 1636 in the Netherlands? Was there a bubble in the price of Dot-Com stocks in 2000? Was there a bubble in house prices in the United States in 2006? Is there a bubble in the price of cryptocurrencies? Before answering these questions, it is necessary to agree on a definition of asset price bubble. Economists have shown that the price of any asset (with an infinite maturity) is the sum of two components: (i) fundamental and (ii) bubble.1 1 See Brunnermeier (2009) for a short discussion on the specific assumptions behind this decomposition between fundamental and value component.
© The Author(s) 2018 S. Basco, Housing Bubbles, https://doi.org/10.1007/978-3-030-00587-0_2
5
