[Lee Jong-woo's Economic Reading] The Biggest Headache in Domestic and International Economy This Year: 'Asset Price Bubble'

US Stock Market Hits Record Highs Again... D?j? Vu of the 2000 Nasdaq Bubble
As Stock Prices Rise, Gap Widens with Economy and Corporate Earnings... Sharp Decline When Attempting to Close Gap
Concern Over Broad Price Drops Spreading to Real Estate
Unprecedented Low Interest Rates May Worsen the Issue... Need for Management Starting Now

In 2000, the US Nasdaq market started at 4069 points. Two months later, on March 10, it reached 5048 points, marking a 25% increase in a short period. During that time, there was a situation in early January where the market rose more than 4% for two consecutive days. Considering that the US market is classified as booming even with a 10% annual increase, this was an unusually rapid rise. Not all of the rise at that time reflected corporate earnings. The price-to-earnings ratio (PER), which indicates how many times the stock price is compared to earnings per share, exceeded 70 times for Nasdaq. This meant it would take 70 years of earnings to build the same company, which was an extremely high figure. Whenever the US stock market bubble is discussed, the Great Depression of the 1930s and the 2000 case are always mentioned, showing how abnormal the stock prices were at that time.

So, were there concerns about the bubble? One might think there were many warnings since stock prices were far from corporate earnings, but it was the opposite. The belief in IT was so strong that discussions without IT were almost impossible. Whether talking about the economy or finance, IT was the focus, and it was predicted that the world would develop infinitely thanks to IT. This strong belief in IT collapsed abruptly when stock prices fell. After reaching the peak, the Nasdaq index dropped 37% in just 70 days.

Confidence in the US stock market is rising again to a peak. Nasdaq is once again leading the way. The record-high streak that began last October has continued even after the new year. As stock prices rise, investors’ confirmation bias intensifies, and the US market is currently at that stage. In such cases, stock prices typically continue to rise until they are overwhelmed by their own high levels.

The repeated rise in the US stock market is due to the interest rate cut in July last year. This was further strengthened by the first phase agreement in the US-China trade negotiations. The problem is that the higher the stock prices rise, the greater the gap becomes between the fundamental aspects such as the economy or corporate earnings. If this situation continues, there will be an attempt at some point to narrow the gap all at once, causing a sharp drop in stock prices. The Nasdaq decline in 2000 was of this form.

Nasdaq is currently the area with the most severe asset bubble in the US. The lowest point right after the financial crisis was 1300 points, and now it is about 9000 points, meaning stock prices have increased sevenfold in 11 years. Considering that US real estate prices only rose by 60% during the same period, it shows how strong the Nasdaq rise has been. Of course, this rise was not entirely due to speculation driven by money. The so-called FAANG companies like Amazon and Apple dominating the global market also structurally changed the US industry. Although the expectations for that strength are excessively inflated, it is a concern. The problem arises when Nasdaq cannot sustain its high stock prices and collapses. The decline is likely to spread beyond Nasdaq to other assets, causing widespread price drops. The reason is simple: the reasons for the rise in Nasdaq and other assets, including real estate, are the same, and the magnitude of the rise is large.

One of the biggest headaches for the domestic and international economy this year is the asset price bubble. In the past, when interest rates were lowered to stimulate the economy, inflation was a concern. If inflation rises and household purchasing power decreases, lowering interest rates can actually hinder economic recovery. That possibility no longer exists. As seen in last year’s 0.4% rise in consumer prices in Korea, major countries are failing to meet inflation targets. Instead, the risk has shifted to asset prices. After the financial crisis, low interest rates caused asset prices to surge. Stock prices in developed countries reached record highs, and real estate surpassed the pre-financial crisis peak two years ago. Interest rates in Europe, including Germany, and Japan have fallen to negative levels, making bonds unlikely to rise further. Since all asset prices have risen, if any one area collapses, simultaneous problems can occur.

In developed countries, the ratio of net assets to disposable income is mainly used as an indicator to measure bubbles affecting the entire economy. Net assets are the portion of real estate, stocks, deposits, etc., owned by households minus the money borrowed to purchase them. Net assets increase when the scale grows by buying assets with one’s own money, but they also increase when asset prices rise. Generally, the latter has a greater impact. Over the past 20 years, the US household net assets/disposable income ratio has peaked three times. The first was in 2000, when a stock bubble was created, at about 6.3 times. The second was in 2008, during the real estate bubble, at 6.6 times. Both times, the bubble burst and caused significant shocks to the US economy. Now is the third time, with the indicator close to 7 times, indicating a more severe bubble than ever before. This situation arose because, unlike the previous two bubbles which were limited to specific sectors like real estate or stocks, now bubbles have formed across all assets.

If the US asset bubble causes problems, it will not end as a problem only for the US. It will also negatively affect other developed countries and Korea. Which asset causes the problem varies by country. Even if stocks cause problems in the US, in Korea it could be real estate rather than stocks. The more severe the bubble, the more likely the corresponding asset will be problematic, and real estate is the asset that has most recently risen in Korea.

Bubbles are difficult to distinguish until they burst. As time passes and prices rise faster, more people try to ride the asset rather than worry about the bubble. Therefore, predicting and preventing bubbles in advance is practically impossible. Once a bubble bursts, the aftereffects are enormous. This time, the impact could be greater than before. This is because unprecedentedly low interest rates have been sustained for a long time, creating a flood of money. When low interest rates were chosen as a measure to overcome the financial crisis in 2008, an asset bubble was anticipated but not controlled. It would be good to manage it well from now on, but judging by how central banks in developed countries lower interest rates and inject money whenever the economy worsens slightly, it seems they have little intention to do so. The more comfortable people feel, the higher the chance of an accident.

This content was produced with the assistance of AI translation services.