Bernanke’s bubble laboratory
Manias can persist even though many smart people suspect a bubble,
because no one of them has the firepower to successfully attack it.
Only when skeptical investors act simultaneously — a moment impossible
to predict — does the bubble pop.
…Mr. Bernanke hired finance experts who had broad
interests and were eager to work with the university’s deepening bench
of theorists. He lured Dilip Abreu, known for work in game theory, back
from Yale, to which he had earlier defected. Making a virtue of an
institutional weakness, the absence of a business school, Princeton
assimilated the finance scholars into the economics department and
freed them to pursue research.
They are building on work done by the late Hyman
Minsky, whose once-ignored ideas about investing manias are now in
vogue, and the late economic historian Charles Kindleberger, whose 1978
"Manias, Panics and Crashes" is a classic. But compared with Mr. Minsky
or another student of bubbles, Yale’s Robert Shiller, the Princeton
trio focuses less on mass psychology than on mathematical models. These
they use to show how bubbles can be created even in markets that
include rational, calculating investors.
Here is the full story, interesting throughout.