Introductory insights

Financial markets not always function in harmony; certain events may disturb the stability leading to contractions in a financial system. The inefficient functioning of the market is a result of increased moral hazard and adverse selection problems. A rise in interest rates or uncertainty, bank panics, or sharp changes in the asset market, affecting balance sheets, are considered to be the main factors generating financial crises. Financial crises can take a form of crash (ex. the stock market), a bubble (also referred as mania or balloon), panics, currency or banking crisis, recession or depression.

Mishkin and Eakins (2006) define a bubble as “a situation in which the price of an asset differs from its fundamental market value”, i.e. when assets (or products) are traded at inflated prices. However, some economists disagree that bubbles occur, and thus argue it is negligible to induce financial crises.

The long history of bubbles date back tracing the very first bubble in: the 17^th century Holland’s Tulip Mania (of 1630s); the 18^th century - the South Sea bubble and Mississippi bubble (1720); the 19^th century - Railway Mania (of 1840s); the 20^th century - the Stock Market bubble (Wall St. Crash (1929), the Great Depression (1930s)), the Dot-com bubble (1990s); up to the most recent ones, the 21^st century - Housing bubble (burst in 2005) and ‘Credit Crunch’ (2007/08).

The Dutch tulip bubble is, for most economists, a starting point in search of inefficient market behaviour (bubbles, instability, etc.) and a fundamental definition of the financial bubble. In my blog I am going to explore tulipmania in greater detail. I will research the topic area and try to define whether the tulipmania was a bubble or only the consequence of irrational behaviour.