Download this Paper Open PDF in Browser

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

CentER Discussion Paper Series No. 2013-042

50 Pages Posted: 20 Aug 2013  

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)

Multiple version iconThere are 3 versions of this paper

Date Written: August 20, 2013

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.

Keywords: financial bubbles, experiments, South Sea bubble, risk-shifting

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

Suggested Citation

Giusti, Giovanni and Noussair, Charles N. and Voth, Hans-Joachim, Recreating the South Sea Bubble: Lessons from an Experiment in Financial History (August 20, 2013). CentER Discussion Paper Series No. 2013-042. Available at SSRN: https://ssrn.com/abstract=2313037 or http://dx.doi.org/10.2139/ssrn.2313037

Giovanni Giusti (Contact Author)

Universitat Pompeu Fabra - Department of Economics and Business ( email )

Barcelona
Spain

Charles 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

Paper statistics

Downloads
132
Rank
51,916
Abstract Views
695