Psychological factors in economy

Economic booms are often characterized by waves of optimism and the view that the economy is entering a new era in which the business cycle has been tamed. The idea that “this time, things are different” became pervasive during the expansion of the mid-2000s, just before the worst financial crisis since the Great Depression. New financial products were thought to have protected market participants by spreading risk widely, thereby justifying the surge in mortgage lending and the phenomenal run-up in house prices. Similarly, the emergence of new information technologies fueled a wave of euphoria that drove the stock market boom of the late 1990s and the longest economic expansion in U.S. history. A similar sense of confidence developed during the Roaring Twenties, spurred by new technologies such as autos and radio, financial innovations, and improved business practices. The Japanese boom of the 1980s with its ballooning property prices also shared some of these characteristics. Each of these episodes ended with a stock market crash when overly optimistic expectations were dashed.

The proposition that confidence can influence the business cycle raises the question of how expectations are translated into actions that affect economic activity. One way that confidence can cause business cycle fluctuations is when people’s actions are influenced by what they think other people might do. For example, if customers start to fear that a bank may not be able to honor deposits, they may rush to withdraw their money before other customers do, triggering a run. The bank may fail and some people may lose their deposits. If this is repeated widely, a general loss of confidence in the financial sector can occur. Since fear is not always a rational process, even a solvent bank could suffer a run that mushrooms into a broad financial panic. Such a crisis of confidence could squeeze liquidity throughout the banking system, causing a contraction in credit that harms broad economic activity.

http://www.frbsf.org/publications/economics/letter/2010/el2010-35.html


So, there is new cicle of economic growt started.

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