Behavioural Finance View on Market Bubbles - Essay Example

work Assignment Behavioural Finance View on Market Bubbles Table of Contents Overview of Tulip mania (of the 17th century) 3 Literature Reviewand Explanation of Tulip Mania (of the 17th century) 3 Historical Explanation of Tulip Mania (of the 17th century) 4 Key Elements or Structure of Tulip Mania (of the 17th century) 4 Behavioural Finance Phenomena of Tulip Mania (of the 17th century) 5 Overview of Great Market Crash of 1929-33 6 Literature Review and Explanation of Great Market Crash of 1929-33 6 Historical Explanation of Great Market Crash of 1929-33 7 Key Elements or Structure of Great Market Crash of 1929-33 7 Behavioural Finance Phenomena of Great Market Crash of 1929-33 7 References 9 Overview of Tulip mania (of the 17th century) Tulip mania of Holland is considered as one of the most important events in the history of market uncertainty which had occurred during 17th century. Tulip mania was the first major economic bubble faced by the global investors where the costs of tulips had increased to an unprecedented level. During the period of tulip mania it has been observed that the cost of a single tulip had surpassed the average income of an expert employee. The period of tulip mania was considered to be a golden age in the Dutch calendar where the prices of the tulip bulbs reached to an unexpected extent (Thompson, 2006). Literature Review and Explanation of Tulip Mania (of the 17th century) At present time, Dutch flower industry comprise about 70% of global flower production and about 90% of global flower trade. From the past time, Dutch flowers were traded to Europe, where the bulbs of flowers were sold with significant amount of prices. Among all the flowers, Tulip flower is significantly interrelated with the life of Dutch people. Dutch people were quite ecstatic about the tulip flowers. From the historical evidence, it can be observed that Dutch people consider tulips as a symbol of fortune in their life. Throughout the period of 1636 it has been observed that the costs of tulip bulbs became extensively which initiated the event, tulip mania (Goldgar, 2007). Historical Explanation of Tulip Mania (of the 17th century) Tulip was first originated in the year 1593, by a botanist named, Carolus Clusius, who carried tulip plant from Constantinople to Holland. He embedded a small garden to investigate the plant for medicinal purposes. Due to certain perceptions about tulip, the flower soon became a fashion icon among affluent people of Holland. As a result, its demand as well as prices started to increase. Momentarily usual tulip bulbs began selling at higher rate in the flower market (Wood, 2012). Key Elements or Structure of Tulip Mania (of the 17th century) With increasing demand of tulips, different marketers started to make investments on planting tulips which provided less risks and high profits. From historical evidences, it can be observed that in the initial period, tulip plantation yielded better profits, but after some years there was sudden fall in the growth of the business. Nevertheless, new guidelines were applied for tulip production, but the firms and the industry faced losses due to rises in the prices of buds (Thompson, 2006). Behavioural Finance Phenomena of Tulip Mania (of the 17th century) The behavioural finance phenomena related to tulip mania of 17th Century provided insight about both prosperous and collision of the market of tulip bulbs. The tulip mania had led to extending negative consequences in the Dutch economy. The effects of tulip mania were so brutal in the sense that it led to liquidation of the economy. In the context of tulip mania of 17th century, it can be argued that in the initial period, the prices of the tulip bulbs were not quite high. However, when the tulip buds were carried in Europe, investors from different foreign markets collected those buds and spread in the market. Nevertheless, as time passed there was certain decrease in the demand of tulip bulbs for farmers because of certain risks in the cultivation. Hence, the production of tulip reduced and the supply of tulip become inadequate to fulfil the demand of customers, which lead to increase in the prices of tulip to a considerable extent (Institute of Historical Research, 2009). Overview of Great Market Crash of 1929-33 The Great Market Crash of 1929-33 was one of the most dangerous commercial cycle contractions in the history of U.S. The period has been considered as the most subtle period of economy. During this period, the ‘net national product’ of U.S. fell significantly, unemployment increased to an considerable extent and consumer spending had reduced substantially (The Regents of University of Colorado Denver, 2012). Literature Review and Explanation of Great Market Crash of 1929-33 According to Friedman and Schwartz, great market crash of 1929-33 is characterised by certain financial catastrophes along with failure in the banking sectors. This was due to the devastating retrenchment in the economic activities in the U.S. It was observed that the market crash had destabilized the monetary system of U.S., declined the level of monetary transactions and reduced the wealth of the population as a whole. These events resulted in the economic inefficiency which and consumption pattern of people (Mishkin, n.d.). Historical Explanation of Great Market Crash of 1929-33 Great market crash was initiated by the crash in the stock market during 1929 to 1933. Due to collapse in stock market, interest rates had reduced significantly which triggered economic deflation. This deflation significantly minimised the personal income and revenues. As a result different companies were badly affected due to reduction of customer spending on several commercial activities (Money- Zine, 2004). Key Elements or Structure of Great Market Crash of 1929-33 The great market crash of 1929-1933 had resulted in significant level of joblessness. It also leads to fewer saving and spending patterns of people. Many banks were unable to secure the loans that were provided to different traders due to deflation. As a result, sudden bank failures had brushed in the entire nation (U.S. History, 2012). Behavioural Finance Phenomena of Great Market Crash of 1929-33 The great market crash of 1929-33 contractions had far reaching negative effects in terms of monetary transactions as well as in the other economic aspects. The event had devastated the belief of the people in the consensus of economy. Great market crash brought tragic effects in terms of decline in the supply of money in the banks and consequently collision in banking systems. The event of great market crash was sustained for about two decades, from 1914 to 1933. The quick fall in product prices due to market crash had adverse effect on the income level of people. For instance, from 1929 to 1930 income in terms of money had been reduced by 15% and from 1932 to 1933, income had reduced by almost 20%. The contraction period had also adversely impacted on the advancement of machines and technology. Furthermore, the market crash had also reduced the employee productivity as number of idle employee had increased considerably (The Regents of University of Colorado Denver, 2012). References Goldgar, A., 2007. Tulipmania: Money, Honor, and Knowledge in the Dutch Golden Age. University of Chicago Press. Money- Zine, 2004. Stock Market Crash of 1929. Why Did the Market Crash?. [Online] Available at: http://www.money-zine.com/Investing/Stocks/Stock-Market-Crash-of-1929/ [Accessed November 21, 2012]. Mishkin, F. S., No Date. Asymmetric Information and Financial Crises: A Historical Perspective. The Nature of Financial Crises. [Online] Available at: http://www.nber.org/chapters/c11483.pdf [Accessed November 21, 2012]. Thompson, E. A., 2006. The tulipmania: Fact or Artifact?. Background. [Online] Available at: http://www.econ.ucla.edu/thompson/Document97.pdf [Accessed November 21, 2012]. The Regents of University of Colorado Denver, 2012. The Great Contraction, 1929-33. T h e Course of Money, Income, Prices, Velocity, a n d Interest Rate. [Online] Available at: http://www.econ.ucdenver.edu/smith/econ4110/Friedman,%20Schwartz%20-%20A%20Monetary%20History%20of%20the%20United%20States.pdf [Accessed November 21, 2012]. U.S. History, 2012. The Great Depression. Sinking Deeper and Deeper: 1929-33. [Online] Available at: http://www.ushistory.org/us/48b.asp [Accessed November 21, 2012]. Wood, C., 2012. The Dutch Tulip Bubble of 1637. About Us. [Online] Available at: http://www.damninteresting.com/the-dutch-tulip-bubble-of-1637/ [Accessed November 21, 2012]. Read More