Sunday, November 02, 2008


"Stuff Happens" t-shirts are easy to find. Less popular are "Cycles Happen", "Price Swings Happen, "Bubbles Happen" or any such.

Robert Shiller writes "Challening the Crowd In Whispers, Not Shouts" in today's NY Times.

Yes, many smart people, (including of course Shiller) were alarmed by real estate price trajectories. And many used the B-word. In today's piece, the writer asks why economists do so less than others.

Why do professional economists always seem to find that concerns with bubbles are overblown or unsubstantiated? I have wondered about this for years, and still do not quite have an answer. It must have something to do with the tool kit given to economists (as opposed to psychologists) and perhaps even with the self-selection of those attracted to the technical, mathematical field of economics. Economists aren’t generally trained in psychology, and so want to divert the subject of discussion to things they understand well. They pride themselves on being rational. The notion that people are making huge errors in judgment is not appealing.

In addition, it seems that concerns about professional stature may blind us to the possibility that we are witnessing a market bubble. We all want to associate ourselves with dignified people and dignified ideas. Speculative bubbles, and those who study them, have been deemed undignified.

In short, [psychologist] Mr. Janis’s insights seem right on the mark. People compete for stature, and the ideas often just tag along. Presidential campaigns are no different. Candidates cannot try interesting and controversial new ideas during a campaign whose main purpose is to establish that the candidate has the stature to be president. Unless Mr. Greenspan was exceptionally insightful about social psychology, he may not have perceived that experts around him could have been subject to the same traps.

True enough. But the well known fact that cycles can (and often will) overshoot and undershoot does not equip anyone to know when enough is enough -- or what to do about it. Banning short-sales illustrates what not to do. Once we get into the fix-it mode, we can easily do more harm than good.

While it is easy to recount past warnings about price bubbles, it is much more difficult to identify early warnings about how housing price swings would interact with mortgage and credit markets. That is the much more interesting discussion. How the ball bounces in pinball is also tough to predict.