CONCEPT – irrational exuberance

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 CONCEPT – irrational exuberance

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• Irrational exuberance refers to a situation where economic agents develop confidence in the economy and financial markets that is misplaced. Consumers, bankers and firms become overly confident and expect asset prices to keep rising and growth to remain strong. 
• Irrational exuberance is a factor behind various financial crises.
• In periods of irrational exuberance we tend to see:

1. rapid asset price inflation, with prices increasing faster than incomes.
2. Increased willingness to take on risk by lenders and borrowers.
3. A tendency to ignore the potential for asset prices to fall or the economy to go into recession.
4. A growth in speculative or Ponzi lending. Where people borrow on the expectation rising asset prices will enable them to sell and make profit, even though they can’t meet actually debt repayments
5. Fall in savings ratio and rise in borrowing levels.

• Examples of Irrational exuberance

1. Financial mania .e.g. tulip bubble of 16th Century
2. Railway mania of 1840s in Great Britain
3. Economic boom of late 1980s in UK
4. Period leading up to stock market crash in 1929.
5. Credit bubble and credit crisis of 2000s.

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