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
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
An intermediate position
Examine comovement between
stock market and
Leading indicator of investment
Speculative bubble? The U.S. stock market 1920-35
Orders of US Machine Tools and Tobin's q in the Dow Jones Stock Market Index, 1921-35
0
20
40
60
80
100
120
140
160
180
Jan
-21
Jan
-22
Jan
-23
Jan
-24
Jan
-25
Jan
-26
Jan
-27
Jan
-28
Jan
-29
Jan
-30
Jan
-31
Jan
-32
Jan
-33
Jan
-34
Jan
-35
Ind
ex 1
928=
100
MACH_ORD DJONES(PM)
Tobin’s q
q =
=
Capital New of PriceCapital Existing of Price
Index PriceMachinery IndexMarket Stock
Tobin’s investment hypothesis
0'),q(I ff
Machinery orders an indicator of I Deflated version of Dow Jones an
indicator of q
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
Recession in Germany in 1927
Orders to German Machinery Industry and Tobin's Q in the Berlin Stock Market
0
20
40
60
80
100
120
140
160
1925
:01
1926
:01
1927
:01
1928
:01
1929
:01
1930
:01
1931
:01
1932
:01
1933
:01
1934
:01
1935
:01
Inde
x 19
28=1
00
Domestic Orders Foreign Orders Berlin Stock Market Index
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
Speculative bubble?
Maybe... Market 30% overvalued if account
for tangible capital onlyBUT
Market undervalued if include intangible capital
Financial market in sync with planned real investment
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