Abstract

http://ssrn.com/abstract=2416442
 


 



Recreating the South Sea Bubble: Lessons from an Experiment in Financial History


Giovanni Giusti


Universitat Pompeu Fabra - Department of Economics and Business

Charles N. Noussair


Tilburg University

Hans-Joachim Voth


University of Zurich - UBS International Center of Economics in Society; Centre for Economic Policy Research (CEPR)

March 2014

University of Zurich, Department of Economics, Working Paper No. 146

Abstract:     
Major bubble episodes are rare events. In this paper, we examine what factors might cause some asset price bubbles to become very large. We recreate, in a laboratory setting, some of the specific institutional features investors in the South Sea Company faced in 1720. Several factors have been proposed as potentially contributing to one of the greatest periods of asset overvaluation in history: an intricate debt-for-equity swap, deferred payment for these shares, and the possibility of default on the deferred payments. We consider which aspect might have had the most impact in creating the South Sea bubble. The results of the experiment suggest that the company’s attempt to exchange its shares for government debt was the single biggest contributor to the stock price explosion, because of the manner in which the swap affected fundamental value. Issuing new shares with only partial payments required, in conjunction with the debt-equity swap, also had a significant effect on the size of the bubble. Limited contract enforcement, on the other hand, does not appear to have contributed significantly.

Number of Pages in PDF File: 51

Keywords: Financial bubbles, experiments, South Sea bubble, risk-shifting, government debt, equity issuance

JEL Classification: G01, G12, G14, N23, C92

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Date posted: March 28, 2014  

Suggested Citation

Giusti, Giovanni and Noussair, Charles N. and Voth, Hans-Joachim, Recreating the South Sea Bubble: Lessons from an Experiment in Financial History (March 2014). University of Zurich, Department of Economics, Working Paper No. 146. Available at SSRN: http://ssrn.com/abstract=2416442 or http://dx.doi.org/10.2139/ssrn.2416442

Contact Information

Giovanni Giusti (Contact Author)
Universitat Pompeu Fabra - Department of Economics and Business ( email )
Barcelona
Spain
Charles N. Noussair
Tilburg University ( email )
P.O. Box 90153
Tilburg, DC 5000 LE
Netherlands
Hans-Joachim Voth
University of Zurich - UBS International Center of Economics in Society ( email )
Raemistrasse 71
Zuerich, 8006
Switzerland
Centre for Economic Policy Research (CEPR)
77 Bastwick Street
London, EC1V 3PZ
United Kingdom
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