As in the earlier example, the US stock bubble eventually burst. And then, in a herd, people rushed in the other direction. Seeing others sell stocks, they did the same.
Soon the market was in chaos. As stock prices crashed, investors lost their fortunes and new-tech companies closed one after another. In a week, $2 trillion in wealth simply disappeared.
Soon the next bubble rose into view. As Shiller predicted, this time it was housing. People, competing with each other, took out loans to buy homes. Home prices skyrocketed. As we would later see, when that bubble collapsed, the entire financial system nearly fell apart. (p. 376)
(Ye Byeong-il's Economy Note)
We aren't always rational when making decisions or judging value. Depending on the situation, we can actually be very irrational. That's often true when trading stocks or real estate.
Seeing the real estate market that was hot through last fall now turn cold, I realize this all over again.
"Consumers are less rational than you think."
This is the basic idea of "behavioral economics," pioneered by Daniel Kahneman and Amos Tversky.
Many economists long believed that humans are rational — that they precisely weigh the pros and cons of the choices before them and then act accordingly.
Kahneman and Tversky challenged this, and built a theory of why people act irrationally in actual decision-making. The significance of behavioral economics is that it broke away from the assumption that people are thoroughly rational.
"Behind the stock market speeding down the growth highway, the irrational behavior of people making decisions was hiding. As Shiller observed, the 1990s stock market looked more like the fashion world than rational economics. One year, large sunglasses became trendy, and as many people started wearing them, even more people rushed to join the craze. A stock market rising only upward is nothing more than a fad expressed through stock prices."
The phrase that the 1990s US stock market looked more like the "fashion world" than rational economics is striking.
When making important decisions, always bear in mind the "irrational behavior" of yourself and others.
(Charles's normal note)
Whether fashion, the economics community, or the market — decisions are always made against some benchmark. In that sense it's rational, because the goal is to judge one's subjectivity objectively. The problem is that the benchmark itself is also bound by the subject it centers on.
Stocks can only be judged from the perspective of my own buying price. Clothes are a necessity, but fashion is style, and dressing up is an act of showing myself to those within my network. It's not an act for an unspecified public. So calling it simply "irrational" feels off. Going back further, there are gaps in the famous "consumers are less rational than you think" claim by Daniel Kahneman and others.
Some may read this post and call it brain-fiction ;D, but even the rational or irrational judgments of eminent scholars are judgments based on their own and their surroundings' interests. Moreover, trends in economics and society are living things. There's no absolute or objective bracket. It's not mathematics. Daniel is interpreting humanistic phenomena through mathematical understanding. I suspect it's a cartel of Western intellectuals and the Eastern intellectuals who were trained in their frameworks. Of course there could be enormous backlash, but if someone reacts to this post with something stronger than dismissal — say, real agitation — there might be another reason behind it.
When I first began writing this post, I started from the reaction "ah — yes!" of someone who used to work in fashion. But as I organized and wrote the thoughts out, other thoughts emerged, so I'm recording them too.
