What is an economic bubble?
An economic bubble occurs when the price of an asset, security, or commodity soars wildly above its intrinsic value. It often happens when high expectations about future growth raise prices and increase trade. Economic bubbles are often hard to detect until they burst, which can result in a crash or a gradual deflation. They usually happen when there is a sudden realisation that the price is too high and investors lose confidence and trigger a sell-off.
Tulip Mania - 1637
Tulip Mania was the first well-documented economic bubble. The craze for tulips took hold in the 1630's after virus-ridden varieties of the flower became the must-have accessory for Holland's nouveau rich.
Although it might sound like a strange investment, the virus created dazzling tulips dabbled and streaked with contrasting red and white. The high demand for these tulips caused a boom in price and at the height of Tulip Mania, a single bulb could cost as much as the annual income of a wealthy merchant.
As tulips often take years to grow, traders even began purchasing tulips before they even existed and a futures market developed! In 1637, the price of tulips reached an unsustainable level and soon traders lost confidence and stopped buying the flowers. Within four days, the market collapsed and tulip bulbs were worth no more than the price of an onion.
The South Sea Bubble - 1720
The word "bubble" was first used to describe the boom and bust of the South Sea Company. In return for exclusive rights to trade in South America - known then as the South Sea - the company took over a portion of government debt, offering creditors the chance to swap the debt owed to them for shares.
At the time Britain's economy was flourishing on the back of trade and, believing that the South Sea Company could turn a considerable profit, people scrambled to buy shares. However Britain was at war with Spain, which controlled the majority of trade in South America and, in reality, the company barely turned a profit. When investors started to realise this, they began panic selling. In less than a year, South Sea Company shares plummeted from a value of £1,000 to little more than £150 and Britain fell into recession.
The Dot-Com Bubble - 2000
The dot-com bubble emerged in the late 90's and early 00's in the US. Low interest rates and the abundance of venture capital made it easy for these dot-coms to flourish. High expectations that this was an industry that couldn't fail caused a rush to buy shares in any company that either began with an "e" or ended in ".com".
However, many dot-coms prioritised expansion over profit, sinking money into building brand awareness and customer numbers. After numerous court cases, a slowdown in the US economy and failure to turn a profit the dot-com bubble burst on March 10, 2000. A mild recession ensued and numerous internet-based companies went bankrupt after obliterating all their venture capital. One example was online retailer Boo.com, which spent a whopping $188 million in six months before filing for bankruptcy in May 2000.
The US Housing Bubble - 2007
The US housing bubble is probably the most recent bubble that economists have agreed existed. The US housing bubble is widely regarded as one of the triggers of the global financial crisis and is tied to other numerous housing bubbles across the globe.
The bubble was caused by the rapid growth of the sub-prime mortgage industry, which finally collapsed in March 2007 and by a rapid growth in house prices thanks to the increasing number of housing loans being given to people who were at a high risk of defaulting on their mortgage debt - known as sub-prime mortgages. When more people began to lose their jobs and default on their mortgage repayments, the number of repossessions escalated and house prices collapsed. The effect was felt across the world and triggered a bank run on Northern Rock, which led to its nationalisation.