Bubble Value at Risk: A Countercyclical Risk Management Approach, Revised Edition

Chapter 1

Introduction

The 2008 global credit crisis is by far the largest boom-bust cycle since the Great Depression (1929). Asset bubbles and manias have been around since the first recorded tulip mania in 1637 and in recent decades have become such a regularity that they are even expected as often as once every 10 years (1987, 1997, 2007). Asset bubbles are in reality more insidious than most people realize for it is not the massive loss of wealth that it brings (for which investor has not entertained the possibility of financial ruin) but because it widens the social wealth gap; it impoverishes the poor. The 2008 crisis highlighted this poignantly—in the run-up to the U.S. housing and credit bubble, the main beneficiaries were bankers (who sold complex derivatives on mortgages) and their cohorts. At the same time, a related commodity bubble temporarily caused a food and energy crisis in some parts of the developing world, notably Indonesia, the fourth-most-populous nation in the world and an OPEC member (until 2008). When the bubble burst, $10 trillion dollars of U.S. public money was used to bail out failing banks and to take over toxic derivatives created by banks. On their way out, CEOs and traders of affected banks were given million-dollar contractual bonuses, even as the main economy lost a few million jobs. Just as in 1929, blue-collar workers bore the brunt of the economic downturn in the form of unemployment in the United States.

The ensuing zero interest rate policy ...