The Distribution of Bubble Losses Matters

The other day, I discussed the fact that the “Rich Man’s Bubble” was bursting and no one seemed to give a damn. This led to some really interesting conversations and arguments online and off – the debate is about whether a narrow section of investments and wealthy people could see huge losses while the average person barely notices. The idea being that if the regular person isn’t reaping any of the benefits of the bubble on the way up, why should if be painful when it deflates?

I don’t know that this will be the case now or not, I’m just relaying the overall sense that no one seems to mind about tech valuations, for example, pulling back so severely this spring.

At FiveThirtyEight, Amir Sufi (U of Chicago) and Atif Mian (Princeton) take a look at the varying impacts bubble bursts have depending on how widely the losses are distributed. They make the case that the 2000 dot com burst was significantly less painful than the credit crisis – despite the losses being nearly equal – thanks to the larger participation (and pain) of the latter episode…

In 2000, the dot-com bubble burst, destroying $6.2 trillion in household wealth over the next two years.

Five years later, the housing market crashed, and from 2007 to 2009, the value of real estate owned by U.S. households fell by nearly the same amount — $6 trillion.

Despite seeing similar nominal dollar losses, the housing crash led to the Great Recession, while the dot-com crash led to a mild recession. Part of this difference can be seen in consumer spending. The housing crash killed retail spending, which collapsed 8 percent from 2007 to 2009, one of the largest two-year drops in recorded American history. The bursting of the tech bubble, on the other hand, had almost no effect at all; retail spending from 2000 to 2002 actually increased by 5 percent.

Keep reading:

Why the Housing Bubble Tanked the Economy And the Tech Bubble Didn’t (FiveThirtyEight)