Intrinsic Bubbles: The Case of Stock Prices

Kenneth A. Froot, Maurice Obstfeld

NBER Working Paper No. 3091 (Also Reprint No. r1704)
Issued in March 1992
NBER Program(s):   ME

Several puzzling aspects of the behavior of United States stock prices can be explained by the presence of a specific type of rational bubble that depends exclusively on dividends. We call such bubbles "intrinsic" bubbles because they derive all of their variability from exogenous economic fundamentals, and none from extraneous factors. Unlike the most popular examples of rational bubbles, intrinsic bubbles provide an empirically plausible account of deviations from present-value pricing. Their explanatory potential comes partly from their ability to generate persistent deviations that appear relatively stable over long periods.

(482 K)

Published: The American Economic Review, Vol. 81, No. 5, pp. 1189-1214, (December 1991).

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