Why do these periodic booms and slumps occur? According to Paul Ormerod, writing in the Sunday Times , it is all due to the summation of people's optimism and pessimism. Well, it's a theory, but there is a more plausible explanation, which is that it is due to the interaction between the land market and the banking system. Put simply, booms turn to slumps when the capital values (selling prices) of land are driven up to the point that the actual yields (rentals), as a percentage of those capital values, are unacceptably low. What drives up these land prices is indeed optimism, the expectation first, that capital values will continue to rise and second, that the rentals that ultimately underpin those capital values, will also keep on rising. The latter expectation is ill-founded and the capital values are themselves boosted to unreasonably high levels as the banks become recklessly willing to lend for land purchase by recklessly willing borrowers with unrealistic expectations of...
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