Page 38 - Ultimate Guide to Currency Trading

The high franc has had the effect of slowing the economy of the small Alpine country. The
higher currency acted like a price increase on the goods produced by Switzerland, and began to stunt
its economy. This was mainly because Switzerland relied so heavily on the service sector (banking) and
already expensive luxury goods (that were slated for export). As the price of the Swiss franc went up,
so did its goods in the eyes of people outside the country. Soon all of Swiss goods were priced 20
percent to 30 percent greater than then they had been three or four years before. The net effect was
a slowing economy and efforts by the Swiss National Bank to regulate more actively its exchange rates.

A Bit about Bubbles

The world's economic history abounds with stories of bubbles. A bubble is when a popular item or
commodity falls under the force of speculation. Once this speculation takes place at the everyman
level, the price expands upward. The prices of the speculative bubble increase to the point where
there is no longer any available cash to support its continued upward movement. At this point the
bubble is formed, and soon thereafter, the bubble pops.

According to Charles Kindleberger's classic work Manias, Panics, and Crashes: A History
of Financial Crises, there were thirty-five speculative bubbles between 1618-1982. It
seems as though this type of boom-bust is a natural part of the economic cycle, and very
difficult to prevent even in the modern day.

According the economist Hyman Minsky, a speculative bubble usually starts with an economic
shock to the otherwise normally operating financial system. Historically, this triggering event has
ranged from famine, excessive credit regimes, and even the implementation and widespread use of a
new technology such as the railroad. The net effect is that of a created rush of investment capital into
the new situation. In the past, most booms have been allowed to happen with some form of added
money supply.

The Great Tulip Bubble

In 1636 in the Dutch republic, there began one of the most famous bubbles, the Great Tulip Bubble.
This was the time when the Netherlands was one of the world's most sophisticated business centers.
With the boom that arose out of a war with Spain, there came added abundance to the low-lands of
Europe. The average Dutch homeowner began to buy up exotic tulip bulbs, and soon there was "tulip-
mania." A year later, the whole industry collapsed, and many households lost their life savings.