Model-Free Detection of a Speculative Asset Bubble: Evidence from the World Market for Superstar Wines

• Agricultural Economics Workshop

Date and Location

Thursday, October 3, 2019, 4:10 PM - 5:30 PM
ARE Library Conference Room, 4101 Social Sciences and Humanities

Abstract

Bubbles occur when an asset price deviates from its fundamental value. Economists have shown asset bubbles are consistent with
neoclassical theory and can arise in a variety of laboratory settings; yet cogent, direct evidence of a bubble in an actual market has remained elusive. The challenge for the empiricist is that fundamental values are necessarily unobservable. I propose a bubble test for one of two nearly identical assets assuming the difference in their fundamental values is a latent exchangeable random variable. Their close relationship implies the difference in fundamentals between the two assets is bounded, bounds which I can find using a concentration inequality. Using this test, I find strong evidence of a bubble in the price of the Bordeaux wine Lafite Rothschild, relative to other fine wines exchanged on global secondary markets. In at least three consecutive periods the upper bound is violated. This is the first direct evidence of a bubble which is both consistent with rational bubble theory and independent of a structural valuation model.