“House prices have risen by nearly 25 percent over the past two years,” Ben Bernanke said in 2005. ”Although speculative activity has increased in some areas, at a national level, these price increases largely reflect strong economic fundamentals.”
If the Federal Reserve had a favorite brand of gum, it would undoubtedly be Bubblicious, an American classic known for producing large bubbles and short-lasting flavor. While blowing bubbles can be fun while it lasts, there is usually a sticky mess to clean up at the end. And despite the lessons of yesteryear, at least one central banker believes investors should get used to the boom-and-bust cycle.
A financial bubble occurs when a rapid expansion in a particular market or asset is followed by a steep contraction. Prices — driven by unwarranted enthusiasm — rise far above where they should be, considering fundamentals or intrinsic value. Examples in recent years include the tech bubble that peaked more than a decade ago and the housing bubble that punctuated the Great Recession.