Bubble Component Research Articles

Children’s learning about water in a museum and in the classroom

This study investigated the effectiveness of a combined museum and classroom intervention project on science learning in low-income children. The focus of the program was on children’s content knowledge and concept complexity. Thirty children were in the experimental group. A control group of 18 children visited literacy and social studies exhibits at the museum. Results indicate that children in the experimental group learned content knowledge about the components of bubbles and the definition of a current. Although children in the experimental group exhibited more complex concepts about buoyancy, they did not become more correct in their judgments. In general, the program supported children’s science literacy development with regard to both concept complexity and content knowledge. Results are interpreted in relation to socio-cultural and constructivist frameworks from developmental psychology.

Overconfidence and Speculative Bubbles

Motivated by the behavior of asset prices, trading volume, and price volatility during episodes of asset price bubbles, we present a continuous‐time equilibrium model in which overconfidence generates disagreements among agents regarding asset fundamentals. With short‐sale constraints, an asset buyer acquires an option to sell the asset to other agents when those agents have more optimistic beliefs. As in a paper by Harrison and Kreps, agents pay prices that exceed their own valuation of future dividends because they believe that in the future they will find a buyer willing to pay even more. This causes a significant bubble component in asset prices even when small differences of beliefs are sufficient to generate a trade. In equilibrium, bubbles are accompanied by large trading volume and high price volatility. Our analysis shows that while Tobin’s tax can substantially reduce speculative trading when transaction costs are small, it has only a limited impact on the size of the bubble or on price volatility.

The X-ray spectrum of the North Polar Spur

An analysis is presented of the soft X-ray background spectrum measured by the EPIC MOS cameras on XMM-Newton in three observations targeted on the North Polar Spur (NPS). Three distinct Galactic plasma components are identified, a cool Local Hot Bubble (LHB) component, T(sub lo) approx. 0.1 keV, a cool Galactic Halo component at a similar temperature and a hotter component, T(sub hi) approx. 0.26 keV, associated with the NPS itself. Using the new data in combination with the Rosat All-Sky Survey count rates measured in the 0.1-0.4 keV band, we estimate the emission measure of the LHB material to be 0.0040-0.0052 cm(exp -6) pc, which implies an electron density of 0.008-0.011 cm(exp -3) and pressure of approx. 22000 cm(exp -3) K. The halo and NPS components lie behind at least 50% of the line-of-sight cold gas for which the total Galactic column density is in the range (2 - 8) x 10(exp 20) cm(exp -2). Modelling the X-ray emitting superbubble as a sphere at distance 210 pc, radius 140 pc and center l(sub II) = 352 deg, b(sub II) = 15 deg, the implied electron density in the NPS is approx. 0.03 cm(exp -3) with pressure approx. 150000 cm(exp -3) K. The observed spectral line complexes from OVII, OVIII, FeXVII, NeIX, NeX and MgXI provide constraints on the composition of the plasma. The hot component in the NPS is depleted in oxygen, neon and, to some extent, magnesium and iron. Assuming the effective line of sight across the halo emission is 1 kpc, the electron density in the halo is 0.007-0.011 cm(exp -3) and the pressure is approx. 16500 cm(exp -3) K, conditions very similar to those in the LHB.

Nonshiftable capital, affine price expectations and convergence to the Golden Rule

This paper studies an overlapping generations (OLG) model with production under the assumption that capital investment is completely irreversible: installed capital cannot be transformed back into consumption good nor transferred from one firm to another. Since firms cannot be dismantled at each generational change without loosing their value, their ownership is transmitted from generations to generations through a stock market. The paper shows that the financial price of a firm can be lower than the replacement value of its capital without creating arbitrage or dampening the incentives to invest. This possibility changes the long-run behavior of the equilibrium, but only for economies with underaccumulation. In the stock market dynamics these economies have two steady-states, the Diamond steady-state and the Golden Rule. The Diamond steady stable is locally saddle-point stable and can be reached by only one trajectory on which the financial price and replacement value of firms coincide at all times. All other trajectories on which there is a discount on equity converge (when they converge) to the Golden Rule which is locally stable: the discount on equity has the same effect as an increase of the savings of the young, which lowers the interest rate, and increases investment and wages at the next generation, a virtuous cycle which leads to the efficient long-run steady-state. On all these trajectories the equity prices are larger than the fundamental value of future dividends and thus include a bubble component.

DETECTION OF ENDOGENOUS GAS PHASE FORMATION IN HUMANS AT ALTITUDE

Air travel routinely exposes passengers to ambient pressure transients. Work in decompression during undersea operations has established that these pressure changes may produce small, mostly inert gas bubbles which become widespread throughout tissues and blood. It was previously thought that bubbles would not form unless a specific supersaturation ratio of tissue pressure to ambient pressure was exceeded. However, detectable gas phases have been identified in humans after surprisingly small decompressions. The purpose of the study was to identify the magnitude and duration of gas phase production at altitude to establish a dose response relationship between bubble formation and hypobaric exposures using Doppler ultrasound. Data from preliminary work for this study suggested the decompression required to produce bubbles in 50% of male subjects was from air saturation at only 10 fswg. Extrapolation to altitude suggested that pressure reductions commonly attained in commercial and military aircraft might be sufficient to form a gas phase in humans. We examined the magnitude and duration of gas phase production in male and female human volunteers at altitudes to 12,000 feet in an altitude chamber to establish a dose response relationship between bubble formation and hypobaric exposures using Doppler ultrasound. Subjects were exposed to hypobaric conditions up to 10,000 ft at 1000 ft increments. At each altitude Doppler ultrasound was used to detect mobile gas phase at several venous sites. We found bubbling in 75% of male subjects at 10,000 feet which is sometimes reached as an equivalent cabin pressure in commercial air flights, and is routinely achieved in unpressurized passenger flights and some military aircraft. The rate of ascent was found to relate to diving decompression stops. The data may be applicable to flying after diving schedules, and may contribute to understanding of a bubble component to altitude sickness.

Overconfidence and Speculative Bubbles

Motivated by the behavior of internet stock prices in 1998-2000, we present a continuous time equilibrium model of bubbles where overconfidence generates disagreements among agents regarding asset fundamentals. With short-sale constraints, an asset owner has an option to sell the asset to other over-confident agents who have more optimistic beliefs. This re-sale option has a recursive structure, that is, a buyer of the asset gets the option to resell it. This causes a significant bubble component in asset prices even when small differences of beliefs are sufficient to generate a trade. Agents pay prices that exceed their own valuation of future dividends because they believe that in the future they will find a buyer willing to pay even more. The model generates prices that are above fundamentals, excessive trading, excess volatility, and predictable returns. However, our analysis shows that while Tobin's tax can substantially reduce speculative trading when transaction costs are small, it has only a limited impact on the size of the bubble or on price volatility. We give an example where the price of a subsidiary is larger than its parent firm. Finally, we show how overconfidence can justify the use of corporate strategies that would not be rewarding in a rational environment.

“Slimming” of power-law tails by increasing market returns

We introduce a simple generalization of rational bubble models which removes the fundamental problem discovered by Lux and Sornette (J. Money, Credit and Banking, preprint at http://xxx.lanl.gov/abs/cond-mat/9910141) that the distribution of returns is a power law with exponent <1, in contradiction with empirical data. The idea is that the price fluctuations associated with bubbles must on average grow with the mean market return r. When r is larger than the discount rate r δ , the distribution of returns of the observable price, sum of the bubble component and of the fundamental price, exhibits an intermediate tail with an exponent which can be larger than 1. This regime r> r δ corresponds to a generalization of the rational bubble model in which the fundamental price is no more given by the discounted value of future dividends. We explain how this is possible. Our model predicts that, the higher is the market remuneration r above the discount rate, the larger is the power-law exponent and thus the thinner is the tail of the distribution of price returns.

On Fragility of Bubbles in Equilibrium Asset Pricing Models of Lucas-Type

In this paper we study the existence of bubbles for pricing equilibria in a pure exchange economy à la Lucas, with infinitely lived homogeneous agents. The model is analyzed under fairly general assumptions: no restrictions either on the stochastic process governing dividends' distribution or on the utilities (possibly unbounded) are required. We prove that the pricing equilibrium is unique as long as the agents exhibit uniformly bounded relative risk aversion. A generic uniqueness result is also given regardless of agent's preferences. A few “pathological” examples of economies exhibiting pricing equilibria with bubble components are constructed. Finally, a possible relationship between our approach and the theory developed by Santos and Woodford on ambiguous bubbles is investigated. The whole discussion sheds more insight on the common belief that bubbles are a marginal phenomenon in such models. Journal of Economic Literature Classification Numbers: C61, C62, D51, G12.

Default Parameter Estimation Using Market Prices

This article presents a new methodology for estimating recovery rates and the (pseudo) default probabilities implicit in both debt and equity prices. In this methodology, recovery rates and default probabilities are correlated and depend on the state of the macroeconomy. This approach makes two contributions: First, the methodology explicitly incorporates equity prices in the estimation procedure. This inclusion allows the separate identification of recovery rates and default probabilities and the use of an expanded and relevant data set. Equity prices may contain a bubble component—which is essential in light of recent experience with Internet stocks. Second, the methodology explicitly incorporates a liquidity premium in the estimation procedure—which is also essential in light of the large observed variability in the yield spread between risky debt and U.S. Treasury securities and the illiquidities present in risky-debt markets.

Business Fixed Investment and “Bubbles”: The Japanese Case

Abstract: The two key questions which motivate our work are: do bubbles exist (in the sense that stock market prices do not always correspond to the present value of expected future profitability) and, if bubbles exist, do they have an effect on business fixed investment? The case of Japan is particularly interesting because of the dramatic movements in the Japanese stock market and the wide perception that these were associated with a bubble. We use a variety of techniques to analyze these questions. Fist, we examine financing and investment patterns to gauge firms' reactions to the 1980s stock market run-up. Second, we test subsets of the orthogonality conditions associated with the empirical first-order conditions for fixed investment. Third, we use a linear projection to decompose stock market prices into fundamental and bubble components, allowing us to carry out parametric estimates of the effect of the bubble component on fixed investment. The data strongly suggest that there was a bubble that had an economically important statistically significant effect on business fixed investment in Japan.;

Detecting rational bubbles in the residential housing markets of Hong Kong

This paper attempts to conduct an empirical study for detecting misspecification errors and rational bubbles in the residential housing markets of Hong Kong. We focus on a fundamental model that defines market fundamental price as a sum of the expected present value of rental income, discounted at a constant rate of return. Testable implications for detecting misspecification errors and/or price bubbles are explored through the flow and stock approaches. In addition, the paper attempts to identify the amount of misspecification and bubble components in the property price data of Hong Kong.

The Stock Market in the Overlapping Generations

This paper studies a simple OLG model with production under the assumption that capital investment is completely irreversible: installed capital cannot be transformed back into consumption good nor transferred from one firm to another. Since firms cannot be dismantled at each generational change without loosing their value, their ownership is transmitted from generations to generations through a stock market. The paper shows that the financial price of a firm can be lower than the replacement value of its capital without creating arbitrage or dampening the incentives to invest. This possibility changes the long-run behavior of the equilibrium, but only for economies with under-accumulation. In the stock market dynamics these economies have two steady states, the Diamond steady state and the Golden Rule. The Diamond steady stable is locally saddle-point stable and can be reached by only one trajectory on which the financial price and replacement value of firms coincide at all times. All other trajectories on which there is a discount on equity converge (when they converge) to the Golden Rule which is locally stable: the discount on equity has the same effect as an increase of the savings of the young, which lowers the interest rate, and increases investment and wages at the next generation, a virtuous cycle which leads to the efficient long-run steady state. On all these trajectories the equity prices are larger than the fundamental value of future dividends and thus include a bubble component.

Misspecification versus bubbles in hyperinflation data: Monte Carlo and interwar European evidence

This paper analyzes some new tests of the Cagan hyperinflation–money demand model which have several advantages relative to those in the literature. They do not confound specification error with rational bubbles, can be implemented with a linear procedure, and are frequently able to detect periodically collapsing bubbles which have challenged existing tests. After a Monte Carlo analysis, the tests are applied to data from hyperinflations in Austria, Germany, Hungary, and Poland. Evidence of misspecification is found for Austria, Germany and Hungary, while the model without a rational bubble component appears to fit the data for Poland.

On Rational Bubbles and Fat Tails

This paper addresses the statistical properties of time series driven by rational bubbles a la Blanchard and Watson (1982). Using insights on the behavior of multiplicative stochastic processes, we demonstrate that the tails of the unconditional distribution emerging from such bubble processes follow power-laws (exhibit hyperbolic decline). More precisely, we find that rational bubbles predict a fat power tail for both the bubble component and price differences with an exponent m smaller than 1. The distribution of returns is dominated by the same power-law over an extended range of large returns. Although power-law tails are a pervasive feature of empirical data, these numerical predictions are in disagreement with the usual empirical estimates. It, therefore, appears that exogenous rational bubbles are hardly reconcilable with some of the stylized facts of financial data at a very elementary level.

Comments and Discussion

Comments and Discussion Janice Eberly and Robert J. Shiller Janice Eberly: Since 1995 the Standard & Poor's 500 index has risen by a factor of three, or about 25 percent per year. Impressive as this performance is, it is modest in comparison with the sevenfold, or 45 percent per year, increase logged over the same period by the S&P High Technology Index as of the date of this conference. This astounding performance suggests to many that an asset bubble has developed in equity markets. Alternatively, the value of firms' intangible capital may have risen substantially, accounting for at least part of the spectacular increase in their market values, particularly in "new economy" industries. Stephen Bond and Jason Cummins attempt to sort out these two explanations empirically. This is an admirable and difficult task, since neither the market values of intangible assets nor asset bubbles are directly observable. Lacking direct measures, the authors construct a model and use proxies for the desired data and argue that intangible and bubble effects can be inferred from the results. The starting point of Bond and Cummins' argument is a measure of firms' value based on analysts' earnings forecasts. This is used to construct a measure of average q based on expected earnings rather than markets' valuation of those earnings. To tackle the problem of unobserved intangible capital, the authors then set up a model that allows them to use only the flow of investment in, rather than the stock of, intangibles. They estimate this model as a linear regression of physical capital investment on their constructed measure of fundamentals and intangible investment. An asset-based measure of fundamentals, Tobin's q, is added to this regression as a diagnostic: if the "fundamental measure" is correctly capturing investment incentives, then any additional value in Tobin's q is simply noise, or a [End Page 109] bubble.1 Such a bubble, they argue, should not affect investment and therefore should not be significant in the regression. The final test is to analyze new economy firms separately. Even if the measure of intangibles is not perfect or does not apply to all firms, then by dividing the sample, it should be possible to ascertain whether intangibles are relatively more important in the new economy. Based on this empirical strategy, the paper finds that the asset-based measure of Tobin's q does not provide incremental information in the investment equation, and that the effect of intangibles in these equations is modest—in both old and new economy firms. The paper concludes that the explanation for equity prices based on intangibles is a "fiction" and that equity prices instead contain a large bubble component—"noisy share prices"—that is pervasive across firms and industries and over time. The approach the authors use to reach these conclusions has four necessary ingredients: the measure of fundamentals, the use of the investment equation to identify the fundamental part of the firm's value, the measure and specification of the effects of intangibles, and the identification of the new economy. Each of these links deserves careful attention. To construct their measure of fundamentals, Bond and Cummins use data from equity analysts who forecast earnings at the firm level. The authors gather two years of earnings forecasts and project a "long run" growth rate that goes out to year five. To calculate a firm's value based on these three pieces of data, the authors have to make a number of assumptions. For example, they assume that earnings after year five will grow at a fixed, economy-wide rate of 6 percent, and they discount the future earnings of all firms at the same rate. This common discount rate is the current-year long-term Treasury bond rate plus a constant risk adjustment of 8 percent. Thus, all firms implicitly have a beta of one and assume a fixed interest rate over a five-year horizon. In addition, by discounting forecasted earnings rather than cash flows, the valuation incorrectly allows for depreciation but not investment expenditure. Although all of these measurement problems would be likely culprits if the resulting valuation were not empirically relevant, the results suggest instead that it is strongly...

Intrinsic Bubbles: The Case of Stock Prices: Comment

Some recent empirical evidence suggests that stock prices are not properly modelled as the present discounted value of expected dividends and that empirical models incorporating nonlinear bubble components better fit the data. In this paper we show that the nonlinearity in the relationship between prices and dividends may arise from how managers choose dividend payout. In particular, we propose a model of managed dividends which can explain observed long-term trends in stock prices. This model of managed dividends is shown to be observationally equivalent to the popular intrinsic bubbles model.(This abstract was borrowed from another version of this item.)

State-space estimation of rational bubbles in the Yen/Deutsche Mark exchange rate

State-Space Estimation of Rational Bubbles in the Yen/Deutsche Mark Exchange Rate. — This paper considers a series that uncovered interest parity predicts to be white noise and inspects it for evidence of stochastic rational bubbles. State-space methods are used that specify a bubble component of the series as an unobserved state. The technique’s effectiveness is demonstrated by Monte Carlo experiments. One span of the series is found in which a stochastic rational bubble specification clearly dominates the white noise specification. It coincides with a period of general financial turm-oil in the associated economies, i.e. Japan and Germany during 1989 and early 1990.

On Fragility of Bubbles in Equilibrium Asset Pricing Models of Lucas-Type

In this paper we study the existence of bubbles for pricing equilibria in a pure Exchange Economy a la Lucas, with infinitely lived homogeneous agents. The model is analyzed under fairly general assumptions: no restrictions either on the stochastic process governing dividends' distribution or on the utilities (possibly unbounded) are required. We prove that the pricing equilibrium is unique as long as the agents exhibit uniformly bounded relative risk aversion. A generic result of uniqueness is also given regardless of agent's preferences. Several pathological examples exhibiting equilibrium prices with bubble components are constructed. Finally, the presence of ambiguous bubbles along the theory developed by Santos and Woodford is studied by means of a transversality condition at infinity. The whole discussion sheds more insight on the common belief that bubbles are a marginal phenomenon in such models.

Role of the Minimal State Variable Criterion in Rational Expectations Models

This paper concerns the minimal-state-variable (MSV) criterion for selection among solutions in rational expectations models that feature a multiplicity of paths that satisfy all of the model’s conditions. It compares the MSV criterion with others, including the widely used saddle-path (dynamic stability) criterion. It is emphasized that the MSV criterion can be viewed as a scientifically useful classification scheme that delineates the unique solution that is free of bubble components. In the process of demonstrating uniqueness for a broad class of linear models, the paper exposits a convenient computational procedure. Applications to current issues are outlined.

Ruling-out non-stationary stochastic rational expectations bubbles when agents are non-risk-neutral

The property of an independent forward-solution in the general solution to linear dynamic RE models is lost where a bubble component has non-zero higher-order moments and where the implicit agents of the model are not risk-neutral. If the conditional higher-order moments are nonstationary, the forward solution becomes process-inconsistent.