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.

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 Tokyo market was open during the speech and immediately moved down sharply after this comment, closing off 3%. Markets around the world followed. 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.

The phrase was also used by Yale professor Robert Shiller, who was reportedly Greenspan's source for the phrase. 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 Greenspan term and it was Greenspan who coined the phrase and not a speech writer.

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