Inscription: On September 19, 2021, the inauguration ceremony of the new campus of The Development Institute of Peking University and south-south college ChengzeYuan was held, and the Alumni Association of Peking University Development Institutions, the Think Tank of the National Development Institute and the Communication Center jointly invited a number of scholars and industry experts to hold a sub-forum with the theme of "Macroeconomic and Financial Markets under the New Development Pattern". This article is based on a speech by Wang Pengfei, a fellow of Guofa University, vice dean of Shenzhen Graduate School of Peking University, and vice dean of HSBC Business School.
Monetary policy and asset bubbles have been my thinking for many years. Because a big part of my research revolves around the topic of asset bubbles. At this morning's forum, teacher Zhang Weiying and teacher Yi Gang both mentioned that the market is very smart, in fact, the financial market is even more so, and I have a deep understanding of this. As a doctor of economics at Cornell University in the United States and a master's degree in The Center for Economic Research of Peking University, I sometimes feel that I can go to the market to harvest a wave of "leeks" with what I have learned, but whenever I have this impulse, the result is often harvested by others as "leeks", so the market is really smart.
is there an asset bubble < h1 toutiao-origin="h6" >? Theory and Empirical Evidence</h1>
Of course, even the smartest markets have times to make mistakes, so there have been many sharp rises and falls in asset prices in history.
When mentioning asset bubbles, sometimes the word "bubble" is put in quotation marks, why should I put quotation marks? Because of the existence of an asset bubble, the academic community has been controversial.
The earliest was the Dutch tulip bubble, which occurred in 1634-1638. Tulip is a very common flower in the Netherlands, is a perennial herb, after flowering this year, next year can continue to flower, tulip rhizome is a bulb, much like garlic garlic head, can be propagated in separate plants. Because of this, tulips are traded as assets, and when they are most popular, a tulip bulb can buy a large estate in Amsterdam. Yes, you read that right, the market is just that crazy.
From 1719 to 1720, there was the "Mississippi Company Bubble Event" in France; in 1720, there was also the "South Sea Bubble Event" in England. All of this eventually led to the UK's Bubble Act, which had a big impact on asset markets.
In the 1920s, the United States also had the so-called "roaring era". As a result, we all know that the market crashed in 1929, and the stock market lost nearly 90% of its market value, from the Great Depression until World War II. Since then, the United States, Japan, and the Chinese stock market from 2005 to 2008 have also experienced bubbles. As far as I know, some people have not been able to untie the set so far.
Before we define an asset bubble, we need to return to the fundamental financial problem of asset pricing
What is the intrinsic value of an asset price? Based on what we have learned, the intrinsic value of an asset price is the discounted present value of the expected future cash flows of an asset. Asset bubbles are the difference between an asset's price and intrinsic value.
There have always been two schools of thought about asset bubbles. One faction believes that asset bubbles are real, such as that of Nobel laureate economist Robert Schiller. There is also a faction that does not believe in bubbles and feels that the market is always right. The representatives of this faction are mainly Eugene Fama, the Nobel Laureate in Economics.
Therefore, the discipline of finance is very interesting, the core and fundamental problem of the discipline is asset pricing, but economists and financiers have not been able to reach a consensus on this issue. What is even more incredible is that two people who have completely different views on the issue of asset pricing can win the Nobel Prize at the same time in 2013.
From the perspective of policy implications, many asset prices have soared and plummeted as if they were a credit phenomenon.
When we talk about bubbles, it is natural to think of the Bank of Japan's five rate cuts between January 1986 and February 1987, which lowered interest rates from 5% to 2.5%, followed by five rate hikes between May 1989 and August 1990, increasing interest rates from 2.5% to 6%. Or between January 2001 and June 2003, the Fed lowered the federal funds rate 13 times in a row, reducing the interest rate from 6% to 1%, and 17 more times between June 2004 and August 2006, raising the interest rate from 1% to 5.25%. This policy adjustment process is very consistent with the housing bubble cycle in the United States at that time.
Due to the lack of consensus on this issue, we cannot intuitively judge whether there is a bubble or not. However, "bubbles" are often devastating, and policymakers have to take this into account when making policies.
The chart below is a chart of the Nikkei and the Japanese benchmark interest rate, and it is not difficult to see that the Nikkei is very consistent with the Pace of Interest Rate Cuts and Hikes of the Bank of Japan.
The same is true of the United States, where the subprime mortgage crisis really emerged after the Fed raised interest rates in 2004. Why did the price of housing stop rising as soon as interest rates were raised? It is because many low-income people use floating interest rates when buying houses, and if the interest rate is low, the monthly payment is less, and the interest rate hike means that the monthly payment is increased. Once the income of low-income people cannot keep up with the rhythm of increasing monthly payments, defaults will follow. The more defaults there are, the more debt squeezes, and eventually the entire financial system is drawn in, which is what happened during the US subprime mortgage crisis.
Does an asset bubble exist?
I think this needs to be explored in theory and data.
First, it is necessary to theoretically find out whether asset bubbles are likely to occur.
Second, understand the impact that asset bubbles can have on the real economy.
Third, on this basis, it is discussed whether monetary policy should intervene in asset bubbles.
Efficient market theory has long denied the existence of asset bubbles. This theory is that when Eugene Farma wrote his doctoral dissertation in the 1960s, he found that stock prices are difficult to predict, and the correlation between daily changes in stock prices and the previous day's value is only 0.03. In addition, countless sources have argued that returns on asset prices are difficult to predict.
Fama's research immediately gained the attention of the academic community, and it was soon written into a well-known best-selling book. Building on this finding, Fama pondered why this was the case. His final argument, which does not use a mathematical model, is a textual description, but this literal description is very powerful. Fama believes that in the game of asset pricing, so many smart people have joined in, and all the information that can be used and the information that should not be used may have been reflected in the asset price through everyone's trading behavior. Future price changes are bound to be driven by new information, so it is difficult to predict because no one knows what will happen in the future.
However, Fama's efficient market theory makes a logical mistake, that is, unpredictability does not equal the market itself is valid. It's a very simple truth, but the academic community didn't realize it until many years later. When a person goes to a casino to gamble, it is indeed difficult to predict the outcome. However, the casino itself certainly has fixed mechanisms to ensure that money is made, and these mechanisms are definitely not effective from the perspective of the individual gambler.
So in theory, the unpredictable market does not mean that the market must be efficient at all times. I myself construct an asset price in the theoretical world, and this price wanders randomly, and the best prediction for it is today's price. But prices are heavily influenced by two factors, one is fundamentals and the other is investor sentiment. Why is the price unpredictable? Because investor sentiment itself is unpredictable, like you want to predict your wife's mood tomorrow, that's a rare thing, an unpredictable thing.
Evidence of foam: the Shiller test
In 1981, Robert Schiller proposed another way to test market theory - the volatility test. He argues that future returns on assets and cash flows have not yet been achieved, making it difficult to test directly, but we can compare the volatility of stock prices and cash flows with after-the-fact figures.
According to the pricing formula of the efficient market, the asset price is equal to the sum of the discounted cash expectancy for future cash flows, which is actually an average. The volatility of an averaged variable is certainly relatively small. Therefore, if the market is valid theory, the volatility of asset prices based on after-the-fact cash flow should be greater than the volatility of real asset prices. Schiller, however, found the opposite.
Schiller's discovery had a huge impact in 1981, and many behavioral economics were inspired by Professor Schiller's articles, which also reflected the academic appeal of the issue of asset pricing. A general conclusion is that asset prices are influenced by both fundamentals and investor sentiment.
Evidence of foam: The Smith experiment
Another factor is investor bubble sentiment. Nobel laureate Smith did a series of experiments on this, which were like theory lessons, in which each participant was told that the distribution of future cash flows was uniform, relatively independent, how much to expect, and what the highest and lowest values might be. Logically, since each participant has the same information, transactions should not be frequent or should not be traded.
However, the opposite is true, under the premise of the same information, trading is still very frequent, and bubbles and crashes are also very common results.
This experiment can calculate exactly when there will be a bubble, and sometimes the asset price will be greater than the maximum possible discount on cash flow. In reality, this often happens, and many people cut leeks in the stock market. According to Smith's design, the value of time is going down, and the value of assets will certainly become smaller over time. Because dividends are distributed independently in each installment, asset prices should decrease as asset retention times become smaller, but Smith found that the reality is that the stock market rises first and then crashes.
Evidence of the bubble: Warrant bubble
Between 2005 and 2008, the Shanghai Composite Index was as high as more than 6,000 points. China's stock market has an institutional arrangement of up and down, that is, the daily increase of stocks cannot exceed 10%, and the decline cannot exceed 10%. Suppose the strike price of the anti-fall option is 10 yuan, there are still 5 trading days left, the price is still 20 yuan, it is impossible to reach the price of 10 yuan in 5 days, and its price is theoretically zero, which does not require any model, but often its price is not zero. Wuliangye had an anti-fall option at that time, and its price exceeded the strike price, which would not have been possible in theory if there was no bubble, because it required the stock price to become negative. According to the limit limit regulations, up to 10% per day, we can calculate the maximum number of next drops, the lowest price, then the theoretical upper limit price of this anti-fall option can be calculated. However, the reality is that almost the entire trading period, the stock price is greater than this upper limit, and when this upper limit is equal to zero, it does not immediately return to zero, and it is still trading wildly in the last few days.
It is common for the last-date right to trade wildly, and many options are liquidated after the price has really zeroed, which is impossible according to the efficient market. So warrant prices in the Chinese stock market give a very strong evidence of the existence of asset bubbles in real trading, which is the conclusion of Professor Xiong Wei of Princeton University and my former colleague Professor Yu Jialin of the Hong Kong University of Science and Technology in an article published in the American Economic Review.
< h1 toutiao-origin="h6" > bubble theory and its impact on the economy</h1>
Why do bubbles exist? There are mainly the following theories on this issue.
One is the Ponzi game proposed by the 2014 Nobel laureate in economics Jean Tyrol in 1985, that the economy is dynamic and ineffective, that interest rates themselves are lower than the rate of economic growth, that if too much savings are saved, that bubbles provide a better way to invest, and that the rate of return of bubbles is essentially the same as that of economic growth. If someone buys a piece of land and does nothing, if the economic growth rate is 10%, the long-term land price will also increase by 10% with the economy, if the real interest rate is less than 10%, the investment in land will be higher than the return on investment in the real economy, then the bubble will occur. At this point, the bubble squeezes out the investment of the entity, because it provides a channel for everyone to invest in other investments. However, Tyrol's theory can not fully explain the relationship between asset prices and the real economy in the United States and some other countries, such as when the price of real estate in the United States rose, its economic situation was very good, but the collapse fell into a crisis, which is inconsistent with Tilore's theory.
I've co-authored a series of papers on financing constraints over the past decade with Professor Jianjun Miao of Boston University, and we think bubbles can ease financing constraints to some extent. Suppose I have a particularly good entrepreneurial idea, but I have no collateral, at this time if the investor is willing to believe in me, willing to give me financing, I can turn this idea into a real investment, not only can generate income, but also support the investor's trust in me, thus forming a benign self-realization mechanism. This example explains why asset prices are often linked to the real economy.
In addition, there are several behavioral economic explanations. One is the Bo Fool theory, in which investors always think that it is possible to sell their assets to a bigger fool at a higher price. There is also a theory of moral hazard that is very instructive for us. For example, many people know that P2P may collapse, but why are so many people willing to take risks? This can be regarded as a kind of moral hazard gambling, in the hearts of these investors, has always believed that as long as a thing is made big, too big to fall, eventually someone will come to the rescue. The same goes for bubbles, because if the bubble doesn't burst, its rate of return is staggering. From this perspective, moral hazard is also a very important influencing factor.
Nor is the impact of bubbles on the economy necessarily all negative. Bubbles can ease financing constraints and improve liquidity. Especially for those high-tech and human capital-intensive industries, equity bubbles are conducive to financing and research and development, and have certain benefits for the economy.
The main hazard of bubbles is that they crowd out investments, have excessive volatility, and can also introduce systemic risks.
In addition, the volatility of the bubble could worsen income distribution. Now the residents of China's big cities are basically divided into a family with a house and a family without a house, and if the price fluctuates, some people will become beneficiaries, some people will be damaged, and consumption will fluctuate accordingly. Many theoretical and empirical studies have found that credit-driven bubbles are more harmful.
< h1 toutiao-origin="h6" > should monetary policy intervene in asset bubbles? </h1>
How to deal with bubbles? There are two main views, one is that there should be no intervention, and the other is that it should be intervened. Now the academic community is also arguing, and several perspectives are currently offered. For example, Greenspan believes that monetary policy only needs to focus on economic variables such as price levels and output, and should not pay extra attention to asset prices. But Holderi Gurry argues that asset bubbles increase economic volatility and that monetary assets should operate against the wind.
Finally, let's introduce a new word about the emergence of bubbles - CryptoPunk. In addition to "cutting leeks", investors can also think about how to use bubbles to do some public welfare. For example, universities want to donate funds, and the support of scientific research funds can be carried out through this platform; for example, putting photos of well-known professors on the blockchain or the cover of their papers to make cryptopunk, someone spends more than 10,000 yuan to take copyright to support academic research, and then sells it to another person at a higher price, and can also get a return on investment while doing public welfare. You can think more about this.
Finishing: Wen Zhan Chun | Editor: Wang Xianqing Bai Yao