Tell me these are tulips. My daughter fervently believes at least the yellow ones are, in the foreground. I need tulips to make my point.
Like these flowers? Want to breathe in their scent? Want to caress them? Who wouldn’t? Too bad they are, for some, a symbol of a great financial, and therefore, great human, failing. Tulips are a pretty version of subprime mortgages, some ridiculous dot-coms, early railroad stocks, and yes, even radio companies in the 1920s. Tulips represent great speculative bubbles, where investors lose their minds are start throwing their money in dangerous directions.
The thing about bubbles is they inflate gradually and pop suddenly. In Holland in the seventeenth century, tulip bulbs were the investment of choice. Financial innovation brought about futures trading in tulips. Exchanges were established. Traders bought and sold tulip bulbs with abandon leading to a speculative frenzy, a bubble in late 1636 that popped horribly in February the following year. Investors were wiped out. What were they thinking? A famous analysis of our human tendency toward speculative mania was studied in the nineteenth century by Charles MacKay, a Scottish clergyman and journalist in his wonderful book “Extraordinary Popular Delusions and the Madness of Crowds.” My dad got me a decent copy of the 1851 edition and I keep it around during times like these.
The thing about tulips — and speculative bubbles — is that it is tough to take your eyes off them. They are, in a sense, financial accidents waiting to happen. In the last day, I bumped into a smart man with a warning about this tendency. Jeff Madrick writes for the New York Review of Books and deeply ponders matters financial. He warned me that all the work currently going on in government and markets to prevent another financial crisis misses a key point. Madrick argues the key question is how we can fix the financial system so that it does a better job allocating resources. That is what financial markets are supposed to do: move excess resources over to important, productive uses for those resources that make the world a better place. A bit of cash for a dozen tulips for your beloved: not a bad use of money. But getting big money to the big problems facing us: can financial markets be engineered to better serve that end? Interesting notion.
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