Bubble Confusion
Posted by John Irons at January 29, 2003 12:01 PM
In a recent series of articles in the Washington Post, yet another writer confuses the stock market with the economy. (See below.) I've fumed about this before (with nice graphs as well), but it looks like I need to say it again.
The "Bubble" of the late 1990's was in the stock market. Various factors led to stock prices that were "too high" and that rose "too fast." Eventually the stock market bubble burst, leading to large declines, especially in the technology sector.
The economic growth of the 1990s, however, was real: unemployment declined to record lows, growth was relatively high, incomes grew, and poverty declined. These were real things - cars, houses, ect. - and economic growth had real, tangible, positive consequences for real people.
Do not confuse the two! It was not a "Bubble Economy," it was a "Bubble Stock Market."
More on market bubbles
In a Bubble Economy, Recognition Comes Too Late (washingtonpost.com)
By Steven Pearlstein
Washington Post Staff Writer
Sunday, November 10, 2002; Page A01
Mention the Bubble Economy and, for many Americans, it now conjures up images of shredded documents and half-built Houston mansions, depleted pension accounts and executives being led off in handcuffs. But it didn't start out that way.
Roughly from 1995 through the end of 2000, the Bubble Economy was known as the new economy, and nearly everyone thought it was a marvelous thing.
Billions of dollars poured in from all over the world from people hoping to get in on the ground floor of the Internet, a medium that held the promise of transforming not only the economy, but life as we knew it. Stock prices rose higher and faster than at any time in history, making the ups and downs of the Nasdaq Stock Market a national obsession.
Now, of course, we know it wasn't all real, and it certainly wasn't enduring. Twenty months after it tipped into recession, the economy is barely growing. Stock prices are back where they were four or five years ago. And nobody is sure how much of the revenue and profit growth during the bubble was real.
Posted by John Irons at January 29, 2003 12:01 PM
Stock performance and economic performance are different but they are related. When the bubble inflates it causes a secular decrease in the cost of corporate borrowing. Some of the real increases in economic performance were certainly due to the stock bubble. A stock bubble affects the economy similarly to expansionary monetary policy, so "bubble economy" may not be precise but it is descriptive. "Bubble Economy" might just be an abbreviation of the more wordy label "Economy during a stock bubble."
To brad,
The stock market and the economy are of course related, however, the implication from the language is that the economy somehow did not perform as well as we previously thought. That implication is incorrect. The "bubble economy" moniker is at best imprecise and at worst it is delibrately misleading.
The abbreviation you suggest is highly irresponsible and misleading, even though it might make a good headline.
I think you and the author of this clip misunderstand what effect a Bubble Market has. If I sell a stock at an inflated price, I earn real returns. If the inflated price falls and the "bubble bursts" the real losses are felt some time in the future. It's not a matter of whether the price increases were real, it's all in the timing. If I sell at the peak of the bubble, that money is as good as any other. If I'm a corporation and I issue stock (or an IPO) at the peak of a bubble market, I am unambiguously better off.
I think you are misreading the last sentance. The author is not talking about real returns as economists would phrase it. I think he is talking about real vs. faked, as in profits were overstated and what was reported by Bristol-Myers-Squibb as profits in 1999 were fake and had to be restated in 2001. Faking profits doesn't really fall within the definition of a bubble market either but that's a separate issue.
Ah - I think you might be seeing my point. By talking about real vs. faked in one sentence and nearby talking about the "bubble economy" the "new economy" (which referred mostly to productivity growth), recession and an economy that is "barely growing", the author leaves the impression that the strong economy was somehow "faked" as well.
You and I, and perhaps even the author, understands that the "bubble economy" should be read as you suggested - "an economy with a stock market bubble," but not everone will realize the distinction.
Best,
JI
Don't you think, though, that the wealth effect produced real impact on aggregate demand, and that as the bubble returns to more natural levels, declining expectations for future consumption are bound to produce some economic contraction? I mean, I'm not with the wackies I've heard arguing that mean reversion is so strong that the economy has to tank if it's had a period of high growth, the "work the rot out" crowd -- but it seems to me that inflated expectations of future consumption were producing inflated current consumption, and that that level is going to have to eventually dip below the mean by more than it exceeded it in order to smooth expected lifetime consumption. And given the levels of consumer debt & spending we're seeing now, it doesn't seem like reality has yet set in. But perhaps I'm missing something?
Don't you think, though, that the wealth effect produced real impact on aggregate demand, and that as the bubble returns to more natural levels, declining expectations for future consumption are bound to produce some economic contraction? I mean, I'm not with the wackies I've heard arguing that mean reversion is so strong that the economy has to tank if it's had a period of high growth, the "work the rot out" crowd -- but it seems to me that inflated expectations of future consumption were producing inflated current consumption, and that that level is going to have to eventually dip below the mean by more than it exceeded it in order to smooth expected lifetime consumption. And given the levels of consumer debt & spending we're seeing now, it doesn't seem like reality has yet set in. But perhaps I'm missing something?
And the stock market is not just a casino. A trillion dollars or so of real investment went into telecoms and dotcoms as a result of the signals generated by stock markets and most of that is gone for good.
One result is that performance on NNP and National Income was not nearly as good as on GDP during the boom years and their immediate aftermath
Similarly, MFP growth was less impressive than labour productivity growth.
John Quiggin's post is most interesting, GDP did take into account those billions or trillion, whatever the case was, and just because the net current value of those investments is now very low, current GDP does not go down, but the overall value of the economy DOES go down. The result is that you will not see an economic bubble because PRODUCTION does not go down as fast and deep as the stock market after an "irrational exhuberance" period, however the total value of goods in the economy does go down substantially more than GDP.
The way I see the differences of opinion are basically in semantics, a bubble by definition is filled with air, or in other words "not real", GDP by definition has no air in it (except for the many billions in accounting tricks and outright fraud of the likes of Enron and World Com)
So the question is more to the the likes of What created the 90's economic growth? and the answer is the stock market bubble.
Jane Galt (probably John Galt's alter ego) has a point, actually quite clear, on how a stock market bubble can temporarily affect the economy's growth, and how it will eventually go back to "real" growth.