Pat Gunning wrote:
> I don't follow your asset bubble story, Tony. Let's assume that the asset
> is a share of stock. You seem to be saying that an asset bubble can exist
> without the bulls actually buying the asset. Is that what you have in
> mind? If not, where do the bulls get the money to buy it? And where does
> the money go when the bulls become bears? Your story seems incomplete.
> More importantly, now that I think of it, if the asset bubble is merely a
> book entry and not something real, how does its bursting affect aggregate
> demand or aggregate supply?
>


OK, Pat, let me try to clarify what I obviously explained badly. Consider 
shares of stock - existing shares, that is (new issues raise different 
questions and are a small part of the market). In any fairly short period 
most holdings are not traded. Those that are traded are traded at a price 
which equates demand and supply - the money goes from buyer to seller, 
bulls match bears at the equilibrium price. No money (saving) is absorbed 
or released net - it just changes hands. The price can rise or fall 
depending on people's beliefs about future prices and returns. If a bubble 
bursts when expectations turn sour it can affect aggregate demand, for 
example because individual shareholders who previously regarded their 
holdings as sufficient, say for retirement, are now (really) poorer 
(individually) in terms of the purchasing power of their holdings, and 
decide to cut back on spending. Such an individual need not have intended 
to sell the shares immediately - what changes is their expectation of 
future prices. That is why it only, in principle, takes a few transactions 
to reveal the current price with possibly large effects. Admittedly, new 
issues really do (or can) translate real money savings into new investment, 
but the terms at which they do so are heavily influenced by transactions in 
existing shares.

Tony Brewer