Bubbles and Central Banks: Historical Perspectives

67 Pages Posted: 9 Apr 2015

See all articles by Markus K. Brunnermeier

Markus K. Brunnermeier

Princeton University - Department of Economics

Isabel Schnabel

University of Bonn - Institute for Financial Economics and Statistics; Max Planck Society for the Advancement of the Sciences - Max Planck Institute for Research on Collective Goods

Date Written: April 2015

Abstract

This paper reviews some of the most prominent asset price bubbles from the past 400 years and documents how central banks (or other institutions) reacted to those bubbles. The historical evidence suggests that the emergence of bubbles is often preceded or accompanied by an expansionary monetary policy, lending booms, capital inflows, and financial innovation or deregulation. We find that the severity of the economic crisis following the bursting of a bubble is less linked to the type of asset than to the financing of the bubble-crises are most severe when accompanied by a lending boom and high leverage of market players, and when financial institutions themselves are participating in the buying frenzy. Past experience also suggests that a purely passive "cleaning up the mess" stance toward the buildup of bubbles is, in many cases, costly. Monetary policy and macroprudential measures that lean against inflating bubbles can and sometimes have helped deflate bubbles and mitigate the associated economic crises. However, the correct implementation of such proactive policy approaches remains fraught with difficulties.

Keywords: bubbles, capital flows, credit, macroprudential policy, monetary policy

JEL Classification: E44, E52, F34, G01, N10

Suggested Citation

Brunnermeier, Markus Konrad and Schnabel, Isabel, Bubbles and Central Banks: Historical Perspectives (April 2015). CEPR Discussion Paper No. DP10528. Available at SSRN: https://ssrn.com/abstract=2592370

Markus Konrad Brunnermeier (Contact Author)

Princeton University - Department of Economics ( email )

Bendheim Center for Finance
Princeton, NJ
United States
609-258-4050 (Phone)
609-258-0771 (Fax)

HOME PAGE: http://www.princeton.edu/¡­markus

Isabel Schnabel

University of Bonn - Institute for Financial Economics and Statistics ( email )

Adenauerallee 24-42
Bonn, 53113
Germany

HOME PAGE: http://www.finance.uni-bonn.de/schnabel

Max Planck Society for the Advancement of the Sciences - Max Planck Institute for Research on Collective Goods ( email )

Kurt-Schumacher-Str. 10
D-53113 Bonn, 53113
Germany
+49-228-9141665 (Phone)
+49-228-9141621 (Fax)

HOME PAGE: http://www.coll.mpg.de/team/page/isabel_schnabel

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