The New Speculative Stock Market: Why the Weak Immunizing Effect of the 1987 Crash?

Abstract

The great bull market in stocks, which to many symbolized the era of Reaganomics, ended in the worst stock market crash in history on October 19, 1987. After rising from 777 in August 1982 to 2722 in August 1987, the Dow Jones industrial average fell 508 points (22.6 percent) on Black Monday. At the close of trading, the Dow stood at 1738, nearly 1,000 points below the pre-crash peak in August. Neoclassical economists, especially those of the rational expectations persuasion, have experienced difficulty in explaining stock market crashes [see, for example, Stiglitz 1990; Miller 1991, 87107]. In contrast, institutionalist and Post-Keynesian analyses of crashes can build on the solid foundation provided by the speculative market theories of Thorstein Veblen [1904], J. M. Keynes [1935], and J. K. Galbraith [1988]. Indeed, Galbraith's classic analysis of the great crash of 1929 provides exceptionally clear and telling insights into the nature of the Reagan bull market and its collapse in October 1987. Moreover, in January 1987, Galbraith [1987] noted parallels between the 1980s and the 1920s and prophetically warned of the possibility of another great crash. While the Reagan bull market was, from beginning to end, remarkably consistent with Galbraith's analysis of speculative