The bubble is the result of financial madness; it’s a market aberration manufactured by government, finance, and industry, a shared speculative hallucination and then a crash ~Eric Janszen
An economic or financial bubble is created when any asset — be it tulips, homes or dot.coms — is allowed to irrationally and unsustainably increase in value. In the late 1990s, the United States witnessed the inflation and subsequent deflation of the dot-com bubble, marked by outrageous market speculation on the value of unproven Web companies.
Most recently, the global economic crisis was spurred largely by the collapse of the housing bubble after a meteoric increase in the price of real estate. From a purely economic perspective, bubbles aren’t necessarily bad or good . They’re just natural extensions of free market forces.
People, for better or worse, tend to flock wildly to the latest hot idea. When speculation on that idea reaches a tipping point, the market corrects itself, often with devastating results. The real trick with ‘bubbles’ is predicting which will be the next one to pop…
In the article “The Next Economic Bubble To Burst? Take Your Pick” by Mark Koba writes: The next economic bubble is on its way—the problem is there’s no clear consensus on ‘what or when’. But there is a feeling that another crisis is about to burst. And as analysts debate over which bubble will break, they also differ on the impact it will have on the economy. “Bubbles are neither good nor bad,” says Ed Greback.
“They are simply a normal market reaction to freely available funding or lack thereof. We can’t stop bubbles. It is human nature to keep creating boom and bust cycles” says Matthew Tuttle. And as for stopping or containing a bubble, Steve Wallman says “government can play a role but seldom does; its leadership”. Here’s a look at some of the trouble spots the experts see coming:
- Treasury bonds: “The next bubble could be in Treasuries: America remains dependent on huge inflows of foreign capital to finance debt … if foreign capital inflows were to slow even a little, there could be a sudden drop in Treasuries and dollar-dominated assets.”
- Commercial Real Estate: “Half a trillion dollars of commercial loans financed on historically low rates, are due for refinancing in the next three years. The negative impact of these shopping center mortgages is enormous.”
- Health Care Technology: “Continued spending on health care technology with a lack of improvement in care is driving an unsustainable cycle. The same dynamic and meltdown that hit the tech, real estate and finance industries is happening in health care.”
- Student Loans/credit cards: “Two out of three college students graduate with debt and those who graduate from public schools owe $17,250 in student loans. Ten years ago it was only $8,000. Add the student credit card debt and this has the potential to collapse on it.”
In the blog “Spotting the Next Economic Bubble” by Jeremy writes: A cooling economy is not hard to spot, amidst the serious debts, stuttering GDP, and increasingly antsy creditors. But there’s more than one way for an economy to go wrong, and it’s easier to spot the cooling ones than the overheating ones. If you’re growing fast, everyone’s optimistic, you’re a good news story, and the money is pouring in.
But it’s highly likely that some of the world’s booming economies are just as unstable as the declining ones. There are tell-tale signs. “Credit lending running ahead of GDP growth suggests that banks are throwing more money at an economy than can be productively used”. That can lead to overvalued assets and a property bubble.
“Growing current account deficits during boom years are another thing to look out for, meaning a country has been seduced into demanding more services than it can afford”. “Lower than average unemployment might look like good news, but it might also suggest a labour shortage, which in turn pushes up wages and costs of production”.
The ‘Economist’ recently attempted to combine these various warning signs into an ‘overheating index’, checking emerging economies to see how sustainable their growth levels might be. It concludes that Argentina, Brazil, Hong Kong, India, Indonesia, Turkey and Vietnam are all “flashing red”.
We know that bust must follow boom, in what Hyman Minsky unapologetically called ‘ponzi economics’. We should spend less time fretting about stimulating growth and delaying the inevitable down cycle, and more time working out how to create a stable and sustainable economy that doesn’t require the impossible in the first place.” ~Jeremy
According to a recent Report by Moody’s Analytics, there is record ‘borrowing by college students’ who are graduating without jobs could lead to major problems in the nation’s economy, and “the long-run outlook for student lending and borrowers remains worrisome,” The Moody’s report points to the fact that student loan volume growth, unlike other lending, has accelerated during the recession.
This is due in part to people seeking more education and retraining as well as some students opting to remain in college longer to avoid poor job prospects. The report indicated that in addition to college enrollment tripling over the past four decades, “demand [for student loans] is driven by the cost of education, which has grown at an extraordinary rate over the past three decades.”
Based on Consumer Price Index (CPI) data, the cost of tuition and fees has more than doubled since 2000, and has outpaced inflation across all goods, health care, housing and energy. The student loan debt load now outpaces credit card debt, and according to Mark Kantrowitz, who publishes the financial aid websites ‘Fastweb.com’ and ‘Finaid.org’, the average 2011 college graduate carries $27,200 in student debt.
“Fears of a bubble in educational spending are not without merit,” the Moody’s report said. Using consumer credit data from Equifax, Moody’s noted the original borrowing amounts taken out by students have risen significantly over the past two years…
In the article “Is China Building Next Bubble?” by MoneyWatch.com writes: Will the next pop you hear be the sound of the China bubble bursting? A few of the world’s savvier financial minds think so. The China bubble talk is mostly focused on the country’s real estate sector, where property sales jumped 76% in 2009 and prices in some markets have recently been rising 8% to 10% a month.
But the fear is that a meltdown in the real estate market could take down the rest of the Chinese economy with it, as has happened in the U.S. and Japan. The roots of the problem lie in China’s aggressive response to the financial crisis. To make up for reduced exports, the government ramped up domestic spending and what ensued was the “mother of all stimulus projects,” says Nicholas Lardy.
The roughly $575 billion in direct stimulus doled out by China’s central government represented 15% of its GDP. In response to concerns that it’s inflating a bubble in real estate, the central government has begun taking steps to cool things off, but to date its more talk than action. But there are several key structural differences between the U.S. real estate mess and China’s situation:
- Leverage is muted: About 25% of Chinese buy their homes outright with cash, and among borrowers, a 50% down payment is typical. China’s household debt as a share of household income runs about 40%. U.S. household debt to income was 130%.
- It’s not a blanket bubble: Beijing, Shenzhen, and Shanghai are China’s Florida, Nevada, and California; speculation and overbuilding have clearly fed bubble valuations.
- The ubiquitous demand argument: China actually needs more construction, not less, to accommodate the mass migration of Chinese from their rural past to their urban future.
In the article “Social Media IPOs: The Next Bubble or Economic Salvation?” by Todd Wilms writes: ‘LinkedIn’ started the latest round of Social Media IPO mania with a now $7.11 billion valuation, followed quickly by Groupon’s SEC announcement of its intent to raise $750 million for their IPO. 2011 is the “Chinese Year of the Bull” with RenRen, Kaixin001, and several other social-media knock-off companies following suit.
Twitter’s much anticipated IPO and recent estimate of Facebook’s IPO to exceed $100 billion will occupy our attentions for months. Will this be the “Great Social Media Bubble” or economic salvation? Are we setting ourselves up for another bubble or is this ultimately good for our economy? There is little doubt that values of these companies are mathematically inflated, with LinkedIn trading as high as 31-times its annual sales.
Groupon’s intent to raise $750 million comes under speculation as the company still can’t reach profitability with its $644 million in revenue in Q1. RenRen was just recently stalled as they were given a ‘Hold’ rating by underwriters Deutsche Bank, who helped lead their IPO to $14 and are now down to just under $9. The others will rush to market prior to Facebook’s much anticipated 2012 IPO.
“The system is built on a monetary system where the Fed creates money out of thin air,” “You have to stop doing that, because that is what caused the deficits to pile on and the financial bubble.” ~Ron Paul
In general, bubbles occur when high volumes of trade occur at values of an inflated nature. The bubble rapidly inflates by the high volumes of trade, but is unable to sustain itself and collapses, also known as “boom and bust.” ‘Bubbles’ are not a new phenomenon. The term was coined from the South Sea Bubble in 1720, from the over-valuation and speculation of the South Sea Company.
Most of us now know of ‘Tulip Mania’ from the 1630s, where a single bulb was valued at roughly $37,000. There has been a major bubble each century, with at least 3 major ones in the 20th century (ending with Dot-Com) and at least one major one (Real Estate) in this new century. While there is great debate on how to predict bubbles, they can appear without warning, have damaging long-term effects, and have the ability to baffle even rational, intelligent people…
If anything will prevent the next financial crisis, it will be financial firms recognizing bubbles and popping them early, with regulators stepping in to ensure that risk-takers are the ones eating the losses. Vigilance is the word.
Of course, bubbles are virtually impossible to see while they’re inflating—who is to say: What is a reasonable bull market and what isn’t, especially when everyone’s making money? For that reason, we all might be left hoping for nothing more than better luck next time…
“People tend to extrapolate current conditions indefinitely into the future. Based on the assumption that positive economic conditions will continue; letting their guards down with respect to risk. As each individual takes more risk, the overall riskiness of the system increases.” ~Michael Lewitt