NY Times, March 31, 2000
FLOYD NORRIS
Modigliani's Message: It's a Bubble, and Bubbles Will Burst
FRANCO MODIGLIANI says that the current mania for Internet and other
technology stocks is not irrational. But it is a bubble, and it will burst.
"I can show, really precisely, that there are two warranted prices for a
share," Dr. Modigliani said in a telephone interview. The one he prefers is
based on such fundamentals as earnings and growth rates. But, he added,
"The bubble is rational in a certain sense." The expectation of growth
"produces the growth, which confirms the expectation; people will buy it
because it went up."
The trouble, he said, is that the bubble price is naturally unstable. It
can keep rising only so long as expectations keep growing. "But once you
are convinced it is not growing anymore, nobody wants to hold a stock
because it is overvalued. Everybody wants to get out and it collapses,
beyond the fundamentals."
Dr. Modigliani knows something about the fundamentals. Now 81 years old, he
won the Nobel Memorial Prize in economics in 1985 in part because of his
pioneering work in just what those fundamentals are. One of his insights --
which seemed odd back in the 1950's when he was first propounding it -- was
that the value of a company's securities, including stocks and bonds,
should be based on expected future profits, discounted by an appropriate
interest rate. That also applies to the stock market as a whole.
By that light, it is not easy to rationalize huge price-earnings ratios.
Dr. Modigliani argues that it is impossible for the economy to grow as fast
as the market seems to be forecasting, even if some companies will do very
well. "You cannot believe that corporate earnings will rise forever at 7
percent," he said. Eventually, "the entire national income will be taken by
profits."
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Louis Proyect
(The Marxism mailing list: http://www.marxmail.org)
