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EH447, 08/09, Week 4-1 Great Depressions in Economic History

EH447, 08/09, Week 4-1 Great Depressions in Economic History. A Bubble in the 1929 Stock Market? Albrecht Ritschl . Bubble hypothesis. Frenetic stock market activity (Galbraith, 1958, many others) Index increased faster than dividends (Rapoport/White, 1991). No-bubble hypothesis.

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EH447, 08/09, Week 4-1 Great Depressions in Economic History

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  1. EH447, 08/09, Week 4-1 Great Depressions in Economic History A Bubble in the 1929 Stock Market? Albrecht Ritschl

  2. Bubble hypothesis • Frenetic stock market activity (Galbraith, 1958, many others) • Index increased faster than dividends (Rapoport/White, 1991)

  3. No-bubble hypothesis • Fisher (1929) • McGrattan and Prescott (2004): • Price/earnings ratios not out of ordinary • Capital taxes far lower than today • Market capitalisation 1.66 x GNP • Tangible capital 1.26 x GNP  30% less? • Intangible capital 0.87 x GNP  12% more

  4. An intermediate position Examine comovement between • stock market and • Leading indicator of investment

  5. Speculative bubble? The U.S. stock market 1920-35

  6. Tobin’s q q = =

  7. Tobin’s investment hypothesis • Machinery orders an indicator of I • Deflated version of Dow Jones an indicator of q

  8. Observations on Stock Market • Strong comovement in stock prices and orders of machinery • Orders of machinery a leading indicator of investment • Stock prices reflect (anticipated) investment / Tobin’s q holds • Peaks in early 1929 and Sept 1929

  9. Recession in Germany in 1927

  10. Observations on German stock market in 1920s • Comovement between machine orders and stock market, just like in U.S. BUT • Comovement is only between stock market and DOMESTIC orders • INTERNATIONAL orders peak in late 1929, in line with U.S. market • NO STOCK MKT CRASH IN 1929

  11. Speculative bubble? Maybe... • Market 30% overvalued if account for tangible capital only BUT • Market undervalued if include intangible capital • Financial market in sync with planned real investment

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