Professor William Rapp is director of the School of Management's new Leir Center for Financial Bubble Research.
Past economic bubbles have been inflated by visions of wealth from tulips (yes, tulips), international trade, railroads, biotechnology and the Internet. Their bursting has been disastrous for individuals and entire nations. The U.S. and other countries are still reeling from the collapse of the recent housing bubble.Bubbles definitely merit in-depth study for a better understanding of how they develop, how to predict them, and how to contend with the economic mess created when they burst. At NJIT, this is the goal of Professor William Rapp, director of the School of Management’s new Leir Center for Financial Bubble Research, www.leirbubblecenter.org. Coming up, Sept. 14-15, 2012, the center will host a conference on policies to contain the negative effects of bubbles without hindering economic progress.
One of the few to warn of the housing bubble’s dangers before it burst, Rapp arrived at NJIT in 2000 as Leir Professor of International Trade and Business. Today, Rapp is conducting research that includes reexamining the history of bubbles to glean new insights along with Assistant Professor Michael Ehrlich, associate center director. The value of their effort is underscored by the increasing frequency of bubbles over the past few decades, which may represent the return to an historic norm. Rapp and Ehrlich also offer the controversial idea that there may be “good” bubbles.
As Rapp explains, a bubble begins with interest in an asset that has real value. It’s even true of the tulip mania that swept Holland in the 17th century, widely considered to be the first bubble to roil a recognizably modern free-market economy. The 18th century saw two especially pernicious bubbles. The South Sea Bubble was inflated by the sale of shares in a British company promoting trade with South America, while those ensnared by the Mississippi Bubble sought to cash in on the prosperity of the French colony of Louisiana.
But there comes a time when expecting that the price of an asset will continue to increase is irrational. Nonetheless, thinking otherwise, speculators keep inflating the bubble, typically with borrowed money. When this becomes unsustainable, the price plummets, speculators default on their loans, and lenders involved are dealt a losing hand as well. The economic aftershocks from the collapse of last decade’s housing bubble ruined the lives of millions of individuals and precipitated the demise of banks and investment firms once thought to be financial bedrock.
Looking back at history, Rapp and Ehrlich see an increasing incidence of bubbles, concluding that they were occurring at roughly five-year intervals in the U.S. at the start of the Great Depression. They are also among those who feel that the Depression and World War II dampened the occurrence of bubbles, with government intervention and social consensus bolstering relative stability.
By 1980, the social compact forged by the Depression and war was dissolving, and bubbles once again became a recurring feature of the financial landscape. “We may have returned to the ‘norm’ of seeing bubbles develop every five years or so,” Rapp says.