What is Economic Bubble?
An economic bubble is a period of inflated asset prices driven by exuberant market speculation. During this phase, asset values soar far beyond their intrinsic worth, or fundamental value, based on underlying economic conditions. This rapid escalation is often followed by a sharp decline, or "burst," resulting in substantial financial losses.
While the exact causes of bubbles are debated among economists, with some questioning their existence altogether, it's generally agreed that they are difficult to identify in real time. Typically, bubbles are only recognized after they have already collapsed.
How Economic Bubble Work?
An economic bubble occurs when asset prices skyrocket far beyond their actual worth, driven by irrational exuberance and speculation. While the exact triggers for such behavior are debated, it's clear that investor psychology plays a significant role.
Bubbles can distort resource allocation, funneling investments into rapidly growing sectors. However, this imbalance is unsustainable. When the bubble bursts, asset prices plummet, and resources must be redistributed, often leading to economic downturns.
History offers numerous examples. The Japanese asset price bubble of the 1980s, fueled by banking deregulation, inflated real estate and stock values to unprecedented levels. Likewise, the dot-com bubble of the late 1990s saw a frenzy of investment in internet companies, with stock prices soaring based on speculative optimism rather than fundamentals. Both cases ended in dramatic market corrections.