Sunday, September 25, 2011

A Short History Of Financial Euphoria: Chapter 6

While there is no doubt that free enterprise gives rise to recurrent episodes of speculation, the features that are common to these episodes are rarely analyzed, according to the author of A Short History of Financial Euphoria, John Kenneth Galbraith. This book from 1990 offers perspectives on bubbles that are still useful today. By paying attention to the signs, "there is a chance - a slim chance, to be sure, given the sweeping power of financial euphoria - that otherwise vulnerable individuals will be warned."

The exuberant mood of the 1920s began in Florida with a land boom. Prices of homes would double repeatedly over the course of just a few years. The bust occurred in 1926, and was perhaps a cause of the stock market's decline in that year. In 1927, however, stock prices advanced. In 1928 and 1929, stock prices "took clear leave of reality".

Stocks could be purchased for just 10% margin. A number of business leaders and economists argued that the growth conditions of the time would persist permanently. Galbraith notes that these were examples of the notion that people believe whatever best serves the good fortune they are experiencing.

This debacle ushered in the most extreme crisis capitalism had ever experienced. Following the stock market crash of 1929, a number of new laws and measures were brought in to treat a lot of the symptoms of the crash. Financial leaders were sent to jail, the Securities and Exchange Commission was started, and laws preventing pyramiding were established. But nothing was done to counter the human tendency toward speculation, which Galbraith argues is the true cause of the boom and bust.

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