Financial Crisis:A Hardy Perennial 7 The immense scope of the financial crashes in the last thirty years re- flects in part that there are many more countries in the international fi- nancial economy and in part that data collection is more comprehensive. Despite the lack of perfect comparability across different time periods, the conclusion is unmistakable that financial failure has been more ex tensive and pervasive in the last thirty years than in any previous period. The 1990s bubble in NASDAQ stocks Stocks in the United States are traded on either the over-the-counter mar. ket or on one of the organized stock exchanges,principally the New York Stock Exchange one of the gional exchanges in Boston,Chicago,and Los Angeles/San Francisco.The typical pattern was that shares of young firms would initially be traded on the over-the-counter market and then most of these firms would in rur the costs associated with obtaining a listin on the new york stoch Exchange because they believed that such a listing would broaden the market for their stocks and lead to higher prices.Some very successful new firms ass ociated with the information technology revolution of the 1990s-Microsoft Cisco Dell Intel-we chose not to obtain a listing on the New York Stock Exchange because they believed that trading stocks electronically in the over-the-counter market was perior to trading stocks by the open-o utcry method used on the New York Stock Exchange In 1990 the market value of stocks traded on the NASDAQ was 11 rcent of that of the New York Stock Exchange the comparable figure or 1995 and 2000 were 19 p rcent and 42 n ent.The annual averag ercentage rate of increase in the market value of NASDAQ stocks was 30 percent during the first half of the decade and 46 percent during the next four years.A few of the newer firms traded on the NASDAO would eventually beco sful and as profitable as Microsoft and Inte and so high prices for their stocks might be warranted.The likelihood that all of the firms whose stocks were traded on the NASDAO would be as successful as Microsoft was extremely small,since it implied that the ofit share of U.S.GDP would be two to three times higher than it eve had been previously. The bubble in U.S.stock prices in the second half of the 1990s was asso ciated with a remarkable U.S.economic boom;the unemployment rate declined sharply,the inflation rate declined,and the rates of economic growth and productivity both accelerated.The U.S.government devel. oped its largest-ever fiscal surplus in 2000 after having had its largest- ever fiscal deficit in 1990.The remarkable performance of the real econ omy contributed to the surge in U.S.stock prices that in turn led to
c01 JWBK120/Kindleberger February 13, 2008 14:58 Char Count= Financial Crisis: A Hardy Perennial 7 The immense scope of the financial crashes in the last thirty years re- flects in part that there are many more countries in the international fi- nancial economy and in part that data collection is more comprehensive. Despite the lack of perfect comparability across different time periods, the conclusion is unmistakable that financial failure has been more extensive and pervasive in the last thirty years than in any previous period. The 1990s bubble in NASDAQ stocks Stocks in the United States are traded on either the over-the-counter market or on one of the organized stock exchanges, principally the New York Stock Exchange or the American Stock Exchange or one of the regional exchanges in Boston, Chicago, and Los Angeles/San Francisco. The typical pattern was that shares of young firms would initially be traded on the over-the-counter market and then most of these firms would incur the costs associated with obtaining a listing on the New York Stock Exchange because they believed that such a listing would broaden the market for their stocks and lead to higher prices. Some very successful new firms associated with the information technology revolution of the 1990s—Microsoft, Cisco, Dell, Intel—were exceptions to this pattern; they chose not to obtain a listing on the New York Stock Exchange because they believed that trading stocks electronically in the over-the-counter market was superior to trading stocks by the open-outcry method used on the New York Stock Exchange. In 1990 the market value of stocks traded on the NASDAQ was 11 percent of that of the New York Stock Exchange; the comparable figures for 1995 and 2000 were 19 percent and 42 percent. The annual average percentage rate of increase in the market value of NASDAQ stocks was 30 percent during the first half of the decade and 46 percent during the next four years. A few of the newer firms traded on the NASDAQ would eventually become as successful and as profitable as Microsoft and Intel and so high prices for their stocks might be warranted. The likelihood that all of the firms whose stocks were traded on the NASDAQ would be as successful as Microsoft was extremely small, since it implied that the profit share of U.S. GDP would be two to three times higher than it ever had been previously. The bubble in U.S. stock prices in the second half of the 1990s was associated with a remarkable U.S. economic boom; the unemployment rate declined sharply, the inflation rate declined, and the rates of economic growth and productivity both accelerated. The U.S. government developed its largest-ever fiscal surplus in 2000 after having had its largestever fiscal deficit in 1990. The remarkable performance of the real economy contributed to the surge in U.S. stock prices that in turn led to
8 Manias,Panics,and Crashes the increase in investment spending and consumption spending and an increase in the rate of U.S.economic growth and the spurt in fiscal revenues. U.S.stock prices began to decline in the spring of 2000;in the next three years U.S.stocks as a group lost about 40 percent of their value while the prices of NASDAQ stocks declined by 80 percent. One of the themes of this book is that the bubbles in real estate and stocks in Japan in the second half of the 1980s,the similar bubbles in Bangkok and the financial centers in the nearby Asian countries in the mid-1990s,and the bubble in U.S.stock prices in the second half of the 1990s were systematically related.The implosion of the bubble in Japan led to an increase in the flow of money from Japan;some of this money went to Thailand and Malaysia and Indonesia and some went to the United States.The increase in the inflow of money led to the appreciation of their currencies in the foreign exchange market and to increases in the prices of real estate and of securities available in these countries.When the bubbles in the countries in southeast asia imploded,there was another surge in the flow of money to the United States as these countries repaid some of their foreign indebtedness:the U.S.dollar appreciated in the foreign exchange market and the annual U.S.trade deficit increased by $150 billion and reached $500 billion The increase in the flow of money to a country from abroad almost always led to increases in the prices of securities traded in that country as the domestic sellers of the securities to the foreigners used a very high proportion of their receipts from these sales to buy other securities from other domestic residents.These domestic residents in turn similarly used a large part of their receipts to buy other domestic securities from other domestic residents.These transactions in securities occurred at ever-increasing prices.It's as if the cash from the sale of securities to foreigners was the proverbial 'hot potato'that was rapidly passed from one group of investors to others,at ever-increasing prices Manias and credit The production of books on financial crises is counter-cyclical.A spate of books on the topic appeared in the 1930s following the U.S.stock market bubble in the late 1920s and the subsequent crash and the Great Depression.Relatively few books on the subject appeared during the several decades immediately after World War II,presumably because the recessions from the 1940s to the 1960s were mild
c01 JWBK120/Kindleberger February 13, 2008 14:58 Char Count= 8 Manias, Panics, and Crashes the increase in investment spending and consumption spending and an increase in the rate of U.S. economic growth and the spurt in fiscal revenues. U.S. stock prices began to decline in the spring of 2000; in the next three years U.S. stocks as a group lost about 40 percent of their value while the prices of NASDAQ stocks declined by 80 percent. One of the themes of this book is that the bubbles in real estate and stocks in Japan in the second half of the 1980s, the similar bubbles in Bangkok and the financial centers in the nearby Asian countries in the mid-1990s, and the bubble in U.S. stock prices in the second half of the 1990s were systematically related. The implosion of the bubble in Japan led to an increase in the flow of money from Japan; some of this money went to Thailand and Malaysia and Indonesia and some went to the United States. The increase in the inflow of money led to the appreciation of their currencies in the foreign exchange market and to increases in the prices of real estate and of securities available in these countries. When the bubbles in the countries in Southeast Asia imploded, there was another surge in the flow of money to the United States as these countries repaid some of their foreign indebtedness; the U.S. dollar appreciated in the foreign exchange market and the annual U.S. trade deficit increased by $150 billion and reached $500 billion. The increase in the flow of money to a country from abroad almost always led to increases in the prices of securities traded in that country as the domestic sellers of the securities to the foreigners used a very high proportion of their receipts from these sales to buy other securities from other domestic residents. These domestic residents in turn similarly used a large part of their receipts to buy other domestic securities from other domestic residents. These transactions in securities occurred at ever-increasing prices. It’s as if the cash from the sale of securities to foreigners was the proverbial ‘hot potato’ that was rapidly passed from one group of investors to others, at ever-increasing prices. Manias and credit The production of books on financial crises is counter-cyclical. A spate of books on the topic appeared in the 1930s following the U.S. stock market bubble in the late 1920s and the subsequent crash and the Great Depression. Relatively few books on the subject appeared during the several decades immediately after World War II, presumably because the recessions from the 1940s to the 1960s were mild
Financial Crisis:A Hardy Perennial 9 The first edition of this book was published in 1978,after U.S. stock prices had declined by 50 percent in 1973 and 1974 following a fifteen-year bull market in stocks;the stock market debacle and the U.S. recession led to the bankruptcies of the Penn-Central railroad.several of the large steel companies,and a large number of Wall Street brokerage firms.New York City was on the verge of default on its outstanding bonds and was saved from insolvency by the State of New York.Not quite a crash,unless you were a senior official or a stockholder in one of the firms that failed or the Mayor of New York City. This edition appears after thirty tumultuous years in global financial markets,a period without a good historical precedent.There was a mania in real estate and stocks in Japan in the 1980s and a crash in the 1990s: during the same period there was a mania in real estate and stocks in Finland and norway and sweden and then a crash.There was a mania in U.S.stocks in the second half of the 1990s-the subsequent 40 percent decline in stock prices probably felt like a crash for those who owned large amounts of Enron,MCIWorldCom,and dot.com stocks.Compar- isons can be made between the stock market bubbles in the United States in the 1920s and the 1990s,and between these U.S.bubbles and the one in Japan in the 1980s. The big ten financial bubbles 1.The Dutch Tulip Bulb Bubble 1636 2.The South Sea Bubble 1720 3.The Mississippi Bubble 1720 4.The late 1920s stock price bubble 1927-1929 5.The surge in bank loans to Mexico and other developing countries in the 1970s 6.The bubble in real estate and stocks in Japan 1985-1989 7.The 1985-1989 bubble in real estate and'stocks in Finland,Norway and Sweden 8.The bubble in real estate and stocks in Thailand,Malaysia,Indonesia and several other Asian countries 1992-1997 9.The surge in foreign investment in Mexico 1990-1993 10.The bubble in over-the-counter stocks in the United States 1995-2000 The earliest bubble noted in the box involved tulip bulbs in the Nether- lands in the seventeenth century,and especially the rare varieties of bulbs.Two of the bubbles-one in Great Britain and one in France occurred at more or less the same time,at the end of the Napoleonic
c01 JWBK120/Kindleberger February 13, 2008 14:58 Char Count= Financial Crisis: A Hardy Perennial 9 The first edition of this book was published in 1978, after U.S. stock prices had declined by 50 percent in 1973 and 1974 following a fifteen-year bull market in stocks; the stock market debacle and the U.S. recession led to the bankruptcies of the Penn-Central railroad, several of the large steel companies, and a large number of Wall Street brokerage firms. New York City was on the verge of default on its outstanding bonds and was saved from insolvency by the State of New York. Not quite a crash, unless you were a senior official or a stockholder in one of the firms that failed or the Mayor of New York City. This edition appears after thirty tumultuous years in global financial markets, a period without a good historical precedent. There was a mania in real estate and stocks in Japan in the 1980s and a crash in the 1990s; during the same period there was a mania in real estate and stocks in Finland and Norway and Sweden and then a crash. There was a mania in U.S. stocks in the second half of the 1990s—the subsequent 40 percent decline in stock prices probably felt like a crash for those who owned large amounts of Enron, MCIWorldCom, and dot.com stocks. Comparisons can be made between the stock market bubbles in the United States in the 1920s and the 1990s, and between these U.S. bubbles and the one in Japan in the 1980s. The big ten financial bubbles 1. The Dutch Tulip Bulb Bubble 1636 2. The South Sea Bubble 1720 3. The Mississippi Bubble 1720 4. The late 1920s stock price bubble 1927–1929 5. The surge in bank loans to Mexico and other developing countries in the 1970s 6. The bubble in real estate and stocks in Japan 1985–1989 7. The 1985–1989 bubble in real estate and stocks in Finland, Norway and Sweden 8. The bubble in real estate and stocks in Thailand, Malaysia, Indonesia and several other Asian countries 1992–1997 9. The surge in foreign investment in Mexico 1990–1993 10. The bubble in over-the-counter stocks in the United States 1995–2000 The earliest bubble noted in the box involved tulip bulbs in the Netherlands in the seventeenth century, and especially the rare varieties of bulbs. Two of the bubbles—one in Great Britain and one in France— occurred at more or less the same time, at the end of the Napoleonic
10 Manias,Panics,and Crashes Wars.There were manias and financial crises in the nineteenth cen- tury that were mostly associated with the failures of banks,often after an extended investment in infrastructure such as canals and railroads. Foreign exchange crises and banking crises were frequent between 1920 and 1940.The percentage increases in stock prices in the last thirty years have been larger than in earlier periods.Bubbles in real estate and in stocks have often occurred together;some countries have experienced a bubble in real estate but not in stocks,while the United States had a stock price bubble in the second half of the 1990s but not one in real estate. Manias are dramatic but they have been infrequent:only two have oc- curred in U.S.stocks in two hundred years.Manias generally have been associated with the expansion phase of the business cycle,in part because the euphoria associated with the mania leads to increases in spending. During the mania the increases in the prices of real estate or stocks or in one or several commodities contribute to increases in consumption and investment spending that in turn lead to accelerations in the rates of eco- nomic growth.The seers in the economy forecast perpetual economic growth and some venturesome ones proclaim no more recessions- the traditional business cycles of the market economies have become obsolete.The increase in the rate of economic growth induces investors and lenders to become more optimistic about the future and asset prices increase more rapidly-at least for a while Manias-especially macro manias-are associated with economic eu phoria;business firms become increasingly up-beat and investment spending surges because credit is plentiful.In the second half of the 1980s Japanese industrial firms could borrow as much as they wanted from their friendly bankers in Tokyo and in Osaka;money seemed 'free' (money always seems free in manias)and the Japanese went on a con sumption spree and an investment spree.The Japanese purchased ten thousand items of French art.A racetrack entrepreneur from Osaka paid S90 million for van Gogh's Portrait of Dr Guichet,at that time the high est price ever paid for a painting.The Mitsui Real Estate Company paid 5625 million for the Exxon Building in New York even though the initial asking price had been $310 million;Mitsui wanted to get in the Guin- ness Book of World Records for paying the highest price ever for an office building.In the second half of the 1990s in the United States newly- established firms in the information technology industry and bio-tech had access to virtually unlimited funds from the venture capitalists who
c01 JWBK120/Kindleberger February 13, 2008 14:58 Char Count= 10 Manias, Panics, and Crashes Wars. There were manias and financial crises in the nineteenth century that were mostly associated with the failures of banks, often after an extended investment in infrastructure such as canals and railroads. Foreign exchange crises and banking crises were frequent between 1920 and 1940. The percentage increases in stock prices in the last thirty years have been larger than in earlier periods. Bubbles in real estate and in stocks have often occurred together; some countries have experienced a bubble in real estate but not in stocks, while the United States had a stock price bubble in the second half of the 1990s but not one in real estate. Manias are dramatic but they have been infrequent; only two have occurred in U.S. stocks in two hundred years. Manias generally have been associated with the expansion phase of the business cycle, in part because the euphoria associated with the mania leads to increases in spending. During the mania the increases in the prices of real estate or stocks or in one or several commodities contribute to increases in consumption and investment spending that in turn lead to accelerations in the rates of economic growth. The seers in the economy forecast perpetual economic growth and some venturesome ones proclaim no more recessions— the traditional business cycles of the market economies have become obsolete. The increase in the rate of economic growth induces investors and lenders to become more optimistic about the future and asset prices increase more rapidly—at least for a while. Manias—especially macro manias—are associated with economic euphoria; business firms become increasingly up-beat and investment spending surges because credit is plentiful. In the second half of the 1980s Japanese industrial firms could borrow as much as they wanted from their friendly bankers in Tokyo and in Osaka; money seemed ‘free’ (money always seems free in manias) and the Japanese went on a consumption spree and an investment spree. The Japanese purchased ten thousand items of French art. A racetrack entrepreneur from Osaka paid $90 million for Van Gogh’s Portrait of Dr Guichet, at that time the highest price ever paid for a painting. The Mitsui Real Estate Company paid $625 million for the Exxon Building in New York even though the initial asking price had been $310 million; Mitsui wanted to get in the Guinness Book of World Records for paying the highest price ever for an office building. In the second half of the 1990s in the United States newlyestablished firms in the information technology industry and bio-tech had access to virtually unlimited funds from the venture capitalists who
Financial Crisis:A Hardy Perennial 11 believed they would profit greatly when the shares in these firms were first sold to the public. During these euphoric periods an increasing number of investors seek short-term capital gains from the increases in the prices of real estate and of stocks rather than from the investment income based on the productive use of these assets.Individuals make down payments on condo apartments in the preconstruction phase of the developments in the anticipation that they will be able to sell these apartments at handsome profits when the buildings have been completed. Then an event-perhaps a change in government policy an unexplained failure of a firm previously thought to have been successful-occurs that leads to a pause in the increase in asset prices. Soon,some of the investors who had financed most of their purchase with borrowed money become distress sellers of the real estate or the stocks because the interest payments on the money borrowed to finance their purchases are larger than the investment income on the assets.The prices of these assets decline below their purchase price and now the buyers are 'under water'-the amount owed on the money borrowed to finance the purchase of these assets is larger than their current market value.Their distress sales lead to sharp declines in the prices of the assets and a crash and panic may follow. The economic situation in a country after several vears of bubble like behavior resembles that of a young person on a bicycle;the rider needs to maintain the forward momentum or the bike becomes unstable. During the mania,asset prices will decline immediately after they stop increasing-there is no plateau,no'middle ground.'The decline in the prices of some assets leads to the concern that asset prices will decline further and that the financial system will experience'distress.'The rush to sell these assets before prices decline further becomes self-fulfillingand so precipitous that it resembles a panic.The prices of commodities- houses,buildings,land,stocks,bonds-crash to levels that are 30 to 40 percent of their prices at the peak.Bankruptcies surge,economic activity slows,and unemployment increases. The features of these manias are never identical and yet there is a similar pattern.The increase in prices of commodities or real estate or stocks is associated with euphoria;household wealth increases and so does spending.There is a sense of 'We never had it so good.'Then the asset prices peak,and then begin to decline.The implosion of a bubble has been associated with declines in the prices of commodities,stocks
c01 JWBK120/Kindleberger February 13, 2008 14:58 Char Count= Financial Crisis: A Hardy Perennial 11 believed they would profit greatly when the shares in these firms were first sold to the public. During these euphoric periods an increasing number of investors seek short-term capital gains from the increases in the prices of real estate and of stocks rather than from the investment income based on the productive use of these assets. Individuals make down payments on condo apartments in the preconstruction phase of the developments in the anticipation that they will be able to sell these apartments at handsome profits when the buildings have been completed. Then an event—perhaps a change in government policy, an unexplained failure of a firm previously thought to have been successful—occurs that leads to a pause in the increase in asset prices. Soon, some of the investors who had financed most of their purchases with borrowed money become distress sellers of the real estate or the stocks because the interest payments on the money borrowed to finance their purchases are larger than the investment income on the assets. The prices of these assets decline below their purchase price and now the buyers are ‘under water’—the amount owed on the money borrowed to finance the purchase of these assets is larger than their current market value. Their distress sales lead to sharp declines in the prices of the assets and a crash and panic may follow. The economic situation in a country after several years of bubblelike behavior resembles that of a young person on a bicycle; the rider needs to maintain the forward momentum or the bike becomes unstable. During the mania, asset prices will decline immediately after they stop increasing—there is no plateau, no ‘middle ground.’ The decline in the prices of some assets leads to the concern that asset prices will decline further and that the financial system will experience ‘distress.’ The rush to sell these assets before prices decline further becomes self-fulfilling and so precipitous that it resembles a panic. The prices of commodities— houses, buildings, land, stocks, bonds—crash to levels that are 30 to 40 percent of their prices at the peak. Bankruptcies surge, economic activity slows, and unemployment increases. The features of these manias are never identical and yet there is a similar pattern. The increase in prices of commodities or real estate or stocks is associated with euphoria; household wealth increases and so does spending. There is a sense of ‘We never had it so good.’ Then the asset prices peak, and then begin to decline. The implosion of a bubble has been associated with declines in the prices of commodities, stocks