A Bayesian's 'Bubble'

63 Pages Posted: 23 Aug 2007 Last revised: 12 Jan 2009

See all articles by C. Wei Li

C. Wei Li

University of Iowa

Hui Frank Xue

Kansas State University (Deceased)

Date Written: September 1, 2008

Abstract

The acceleration of U.S. productivity growth in late 1990s suggests a significant advance in technological innovations, making the perceived probability of entering a "new economy" ever increasing. Based on macroeconomic data, we identify a Bayesian investor's belief evolution when facing a possible structural break in the economy. We show that such a belief evolution plays a significant role in explaining both the stock market boom and the crash during 1998-2001. We conclude that a rational investor's uncertainty about the future of the U.S. economy provides an alternative explanation for the late 1990s' stock market "bubble".

Keywords: Bubble, total factor productivity, Bayesian update, technological innovations

JEL Classification: G12

Suggested Citation

Li, C. Wei and Xue, Hui Frank, A Bayesian's 'Bubble' (September 1, 2008). Journal of Finance, Forthcoming, Available at SSRN: https://ssrn.com/abstract=1008294 or http://dx.doi.org/10.2139/ssrn.1008294

C. Wei Li (Contact Author)

University of Iowa ( email )

Finance Department
Henry B. Tippie College of Business
Iowa City, IA 52242-1097
United States
319-335-0911 (Phone)
3193353690 (Fax)

Hui Frank Xue

Kansas State University (Deceased)

N/A

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