This paper was prepared for the 2010 Nakahara Prize Lecture at the annual meeting of the Japanese Economic Association held at Kwansei Gakuin University on 19 September 2010. This paper has greatly benefited from comments and suggestions by an anonymous referee and co-editor Kazuya Kamiya. I would like to thank Takayuki Tsuruga and Shigeto Kitano for helpful discussions on a preliminary version of this paper. Financial support from JSPS KAKENHI (21243027) is gratefully acknowledged.
Article first published online: 25 JAN 2011
© 2011 Japanese Economic Association
Japanese Economic Review
Volume 62, Issue 1, pages 27–62, March 2011
How to Cite
KAMIHIGASHI, T. (2011), RECURRENT BUBBLES. Japanese Economic Review, 62: 27–62. doi: 10.1111/j.1468-5876.2010.00527.x
- Issue published online: 23 FEB 2011
- Article first published online: 25 JAN 2011
- Final version accepted 20 October 2010.
We study rational bubbles in a standard linear asset price model. We first consider a class of bubble processes driven by multiplicative i.i.d. shocks. We show that a bubble process in this class either diverges to infinity with probability one, converges to zero with probability one, or keeps fluctuating forever with probability one, depending on investors' “confidence” in expected bubble growth. We call a bubble process having the last property “recurrent.” We develop sufficient conditions for a bubble process to be recurrent when it is driven by non-i.i.d. shocks, when the risk-free interest rate is not constant, and when the process is driven by non-i.i.d. shocks and the risk-free interest rate is not constant. In the last case we demonstrate via simulation that there can be a prolonged period in which both the bubble and the interest rate stay close to zero.