Malkiel, a Princeton Professor famous for his appeal against chart-reading and stock-picking thirty years ago in A Random Walk Down Wall Street, recently published this short paper about asset bubbles. He recounts the history of the famous bubbles in the past (tulips, South Sea companies, Tokyo real estate, etc.), but, unsurprisingly, claims that bubbles ex-ante are very difficult to recognize. Further, even if positive-feedback bubbles existed (a series of papers by Blanchard and his followers has shown that bubbles with rational agents are essentially impossible, so some irrationality is required), it is not clear whether monetary policy could be effectively deployed against them; a famous 2001 AER by Gertler and some guy named Ben Bernanke argue that it cannot. Malkiel closes by arguing that regulation can sometimes halt the rise of bubbles, but even then it is not clear what could be done in many cases – leverage limits and Tobin taxes are not necessarily the solution.
An additional value of this paper lies in its fabulous collection of quotes, many of which are familiar if you’ve read Mackay’s famous “Popular Delusions” (1841). For instance, Isaac Newton on losing money in the South Sea bubble: “I can calculate the motion of heavenly bodies, but not the madness of people.” Of course, Isaac could not predict such motion, as neither he (nor anybody) could solve the Three Body Problem for orbital motion. And certainly crowds are that much more complicated.