From Tulips to Mortgage-Backed Securities: The Nature of Crashes

[NicholeW.]

From Tulips to Mortgage-Backed Securities: The Nature of Crashes
By Gerald Friedman, Dollars and Sense. Posted January 20, 2009.

http://www.dollarsandsense.org/archives/2009/0109friedman.html

Thirty years ago, economist Charles Kindleberger published a little book, Manias, Panics, and Crashes (New York, 1978), describing the normal tendency of capitalist financial markets to fluctuate between speculative excess (or "irrational exuberance" in the words of a recent central banker) and panic. Kindleberger describes about 40 of these panics over the nearly 260 years from 1720–1975, or one every seven years. Following Kindleberger's arithmetic, we were due for a panic because it had been seven years since the high-tech bubble burst and the stock market panic of 2000–1. And the panic came, bringing in its wake a tsunami of economic woe, liquidity shortages, canceled investments, rising unemployment, and economic distress.

... The problem is that financial markets trade in unknown and unknowable future returns. Lacking real information, they are inevitably driven by the madness of crowds.