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. . . somehow seems to echo this little story which has been seen on this
list some time ago :-
Once there was a little island country.
The land of this country was the tiny island itself. The
total money in circulation was 2 ringgit as there were
only two pieces of 1 ringgit coins circulating around.
(1) There were 3 citizens living on this island country. A
owned the land. B and C each owned 1 ringgit.
(2) B decided to purchase the land from A for 1 ringgit. So,
A and C now each own 1 ringgit while B owned a piece of land
that is worth 1 ringgit.
The net asset of the country = 3 ringgit.
(3) C thought that since there is only one piece of land in
the country and land is non produceable asset, its value must
definitely go up. So, he borrowed 1 ringgit from A and
together with his own 1 ringgit, he bought the land from B
for 2 ringgit.
A has a loan to C of 1 ringgit, so his net asset is 1 ringgit. B
sold his land and got 2 ringgit, so his net asset is 2 ringgit. C
owned the piece of land worth 2 ringgit but with his 1 ringgit debt
to A, his net asset is 1 ringgit.
The net asset of the country = 4 ringgit.
(4) A saw that the land he once owned has risen in value.
He regretted selling it. Luckily, he has a 1 ringgit loan to C. He
then borrowed 2 ringgit from B and and acquired the land
back from C for 3 ringgit. The payment is by 2 ringgit cash ( which he
borrowed ) and cancellation of the 1 ringgit loan to C.
As a result, A now owned a piece of land that is worth 3 ringgit. But
since he owed B 2 ringgit, his net asset is 1 ringgit.
B loaned 2 ringgit to A. So his net asset is 2 ringgit. C
now has the 2 coins. His net asset is also 2 ringgit.
The net asset of the country = 5 ringgit.
A bubble is building up.
(5) B saw that the value of land kept rising. He also wanted to
own the land. So he bought the land from A for 4 ringgit. The
payment is by borrowing 2 ringgit from C and cancellation of his 2
ringgit loan to A.
As a result, A has got his debt cleared and he got the 2 coins. His
net asset is 2 ringgit.
B owned a piece of land that is worth 4 ringgit but since he has
a debt of 2 ringgit with C, his net asset is 2 ringgit. C loaned
2 ringgit to B, so his net asset is 2 ringgit.
The net asset of the country = 6 ringgit.
Even though, the country has only one piece of land and 2 ringgit in
circulation.
(6) Everybody has made money and everybody felt happy and
prosperous.
(7) One day an evil wind blowed. An evil thought came to C's mind.
"Hey,
what if the land price stop going up, how could B repay my loan. There
is
only 2 ringgit in circulation, I think after all the land that B owns
is
worth at most 1 ringgit only." A also thought the same.
(8) Nobody wanted to buy land anymore. In
the end,
A owns the 2 ringgit coins, his net asset is 2 ringgit. B
owed C 2 ringgit and the land he owned which he thought
worth 4 ringgit is now 1 ringgit. His net asset become -1 ringgit. C
has a loan of 2 ringgit to B. But it is a bad debt. Although his net
asset is still 2 ringgit, his heart is palpitating.
The net asset of the country = 3 ringgit again.
Who has stolen the 3 ringgit from the country ?
Of course, before the burst of the bubble B thought his land
worth 4 ringgit.
Actually, right before the collapse, the net asset of the country was
6
ringgit in paper.
(9) B had no choice but to declare bankruptcy.
C has to relinquish his 2 ringgit bad debt to B but in return he
acquired the land which is worth 1 ringgit now.
A owns the 2 coins, his net asset is 2 ringgit. B is
bankrupt, his net asset is 0 ringgit.
( B lost everything )
C got no choice but end up with a land worth only 1 ringgit ( C
lost one ringgit )
The net asset of the country = 3 ringgit.
End of the story.
There is however a redistribution of wealth.
A is the winner, B is the loser, C is lucky that he is spared.
A few points worth noting :-
(1) When a bubble is building up, the debt of individual in a
country to one another is also building up.
(2) This story of the island is a closed system whereby there is
no other country and hence no foreign debt. The worth of the
asset can only be calculated using the island's own currency.
Hence, there is no net loss.
> (3) An overdamped system is assumed when the bubble
burst, meaning the land's value did not go down to below 1 ringgit.
(4) When the bubble burst, the fellow with cash is the winner.
The fellows having the land or extending loan to others are the
loser. Their asset could shrink or in worst case, they go
bankrupt.
(5) If there is another citizen D either holding a ringgit or another
piece of land but refrain to take part in the game. At the end of the
day, he will neither win nor lose. But he will see the value of his
money
or land go up and down like a see saw.
(6) When the bubble was in the growing phase, everybody made money.
(7) If you are smart and know that you are living in a growing bubble,
it
is worthwhile to borrow money ( like A ) and take part in the game.
But you
must know when you should change everything back to cash.
(8) Instead of land, the above applies to stocks as well.
(9) The actual worth of land or stocks depend largely on psychology.
..............
cheers
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