If you regularly read newspapers or books on finance niches like Rich Dad Poor Dad, then you must already know about the term “economic bubble.” An economic bubble, also called a financial bubble, is a situation where the prices of assets or securities rise irrationally to their baseline value, resulting in market euphoria. An economic bubble is the result of speculative decisions, easy access to credit, and low-interest rates. Unfortunately, such bubbles eventually burst, leading to a sharp drop in prices and widespread financial losses.
The Economic Bubble Model
Assets’ prices rise continuously because there is more demand as more capital comes in. But then the assets’ value starts dropping, leading to massive write-downs and losses. Financially educated people take advantage of these situations by saving and investing their money after the economic bubble erupts and the market starts falling. As a consequence, they acquire assets, including stocks, real estate, and businesses, at the lowest possible price and manage to maximize their profit.
Coming back to the topic, here are the 5 greatest economic bubbles in history:
Tulip mania (1634–1637)
During the early 1600s, a new exotic flower species called tulips were found in the Netherlands. Soon it became a mark of wealth and status in Europe. Tulip prices rose in lockstep with demand until the market crashed, leaving investors, merchants, and farmers with immense losses and nothing but tulips. This economic bubble erupted in 1634, and the economy took 2 years to gain stability.
The South Sea bubble (1720)
The South Sea Bubble was one of the first financial crises in modern history. This bubble took place in England during the early 17th century. This bubble was named after the monopoly trade company of South America called the South Sea Company. The stock price of this company was rising in an unmatchable way, which led to speculation and more rise in stock prices of the company. Ultimately, the bubble burst in 1720, resulting in phenomenal losses and decades of lasting cynicism.
Railroad mania (1845–1847)
The railroad mania was an important event in the history of the British railway industry. During the 1840s, the British railway was experiencing historical growth and expansion. Speculation was fueled by factors including the discovery of coal fields and the expansion of the British Empire. As new railroad companies swamped the market, the boom didn’t last very long. This added up to overinvestment, which results in widespread economic losses.
Stock market crash (1929)
This economic bubble is also known as the “Great Crash.” This period of ruthless stock market decline in the United States affected the entire global economy. The crash was caused by several factors, including speculation, an increase in consumer debt, a decline in consumer spending, and a blind belief that the market will continue to rise. However, on October 29, 1929, the economic bubble’s inflation limit was reached, and it burst.
The losses were so severe that it is regarded as the start of the Great Depression. The Dow Jones Industrial Average (DJIA) lost 25% of its value that day (also called Black Tuesday) and continued to do so for months until it lost 89% of its value.
Dot-com bubble (1995–2000)
During the dot-com bubble period, everyone was opening a dot-com enterprise because of the unprecedented growth of the Internet and its widespread adoption, supported by the increasing availability of affordable personal computers. At that time, many investors invested their money into tech startups, and everyone was convinced that the internet boom would last forever and would revolutionize the lives of laypeople. But as we saw earlier, no bubble lasts forever, and that’s what continued here; it erupted and led to a period of economic stability.