Irrational exuberance

“Irrational exuberance” is a phrase used by the then-Federal Reserve Board chairman, Alan Greenspan, in a speech given at the American Enterprise Institute during the Dot-com bubble of the 1990s. The phrase was interpreted as a warning that the market might be somewhat overvalued.

Initial fame

Greenspan's comment was made during a televised speech on December 5, 1996 (emphasis added in excerpt):

Clearly, sustained low inflation implies less uncertainty about the future, and lower risk premiums imply higher prices of stocks and other earning assets. We can see that in the inverse relationship exhibited by price/earnings ratios and the rate of inflation in the past. But how do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions as they have in Japan over the past decade?

— "The Challenge of Central Banking in a Democratic Society", 1996-12-05

The Tokyo market was open during the speech and immediately moved down sharply after this comment, closing off 3%. Markets around the world followed.^[1][2] The prescience of the short comment within a rather dry and complex speech would not normally have been so memorable; however, it was followed about three years later by major slumps in stock markets worldwide, particularly the Nasdaq Composite, provoking a strong reaction in financial circles and making its way into colloquial speech. Greenspan’s comment was well remembered, although few heeded the warning.

Origin of the phrase

The phrase was also used by Yale professor Robert Shiller, who was reportedly Greenspan's source for the phrase.^[3] Shiller used it as the title of his book, Irrational Exuberance, in 2000. Shiller is associated with the CAPE ratio and the Case-Shiller Home Price Index popularized during the housing bubble of 2004-2007. He is frequently asked during interviews whether markets are irrationally exuberant as asset prices rise. There was some speculation for many years whether Greenspan borrowed the phrase from Shiller without attribution, although Shiller later wrote that he contributed "irrational" at a lunch with Greenspan before the speech but "exuberant" was a previous ^[1] Greenspan term and it was Greenspan who coined the phrase and not a speech writer.

Greenspan wrote in his 2008 book that the phrase occurred to him in the bathtub while he was writing a speech.^[4]

The irony of the phrase and its aftermath lies in Greenspan's widely held reputation as the most artful practitioner of Fedspeak, often known as Greenspeak, in the modern televised era. The speech coincided with the rise of dedicated financial TV channels around the world that would broadcast his comments live, such as CNBC. Greenspan's idea was to obfuscate the Fed Chairman's true opinion in long complex sentences with obscure words so as to intentionally mute any strong market response.^[5] Precisely because he was considered to be so good at this, an uncharacteristically clear statement such as "irrational exuberance" was viewed as a strong signal to the markets and its meaning was widely discussed by financial journalists at the time of the speech. The further irony was that if it was indeed his intended purpose to "talk markets down" he was later ignored as stock valuations three years later dwarfed the levels at the time of the speech. This phrase is arguably the most famous example of Greenspeak, if not perhaps a contrary one.

Continued popularization

It had become a catchphrase of the boom to such an extent that, during the economic recession that followed the stock market collapse of 2000, bumper stickers reading “I want to be irrationally exuberant again” were sighted in Silicon Valley and elsewhere.

By the mid-to-late 2000s the dot-com losses were recouped and eclipsed by a combination of events, including the 2000s commodities boom and the United States housing bubble. However, the recession of 2007 onward wiped out these gains. The second market slump brought the phrase back into the public eye, where it was much used in hindsight, to characterize the excesses of the bygone era. In 2006, upon Greenspan’s retirement from the Federal Reserve Board, The Daily Show with Jon Stewart held a full-length farewell show in his honor, named An Irrationally Exuberant Tribute to Alan Greenspan.^[6]

The term gained new currency after the collapse of the US housing market in 2008 that led to a world-wide financial panic. Shiller was the co-creater of the Case-Shiller index that tracks US residential housing prices. He is frequently interviewed as an expert on home prices and shared the Nobel prize in economics in 2013 for his work on asset prices. Greenspan's 1996 speech and Shiller's 2000 book are often viewed as harbingers of future frenzy whether or not they specifically predicted the bubbles and subsequent crashes that followed.

This combination of events caused the phrase at present to be most often associated with the 1990s dot-com bubble and the 2000s US housing bubble although it can be linked to any financial asset bubble or social frenzy phenomena, such as the tulip mania of 17th century Holland.^[7]

The phrase is often cited in conjunction with criticism of Greenspan's policies and debate whether he did enough to contain the two major bubbles of those two decades. It is also used in arguments about whether capitalist free markets are rational.^[8]

See also

• Dot-com bubble
• United States housing bubble
• Stock market bubble
• Extraordinary Popular Delusions and the Madness of Crowds
• Fedspeak

References