In the comments here at Free Advice, regarding my Mises CA post on Fama, J Mann was bringing up some good points. In response to one of his comments I wrote the following clarification, which may help some of you:
J Mann wrote:
If I’m being as charitable as I can to Fama, then if Shiller claims there’s a bubble in equities, and equities somewhat underperform other assets over the next 5 years,.
Here’s what I think happened:
(1) Shiller claimed a tech bubble.
(2) A few years later, tech stocks crashed hard.
(3) People said, “Shiller called it, he’s a prophet.”
(4) Fama pointed out, “Wait a second, tech stocks went way up after Shiller called bubble. So we need to see what the crash looked like, compared to when he first called bubble, not compared to the peak.”
If the above (4) steps were all Fama/Sumner had done, then they would be great. I would congratulate them on their caution before rewarding people with kudos for calling “bubble.”
However, Fama went further:
(5) He looked at the market bottom, saw that it was higher than the price when Shiller first called bubble, and concluded that Shiller had in fact been an idiot.
So that’s what I was objecting to.
Further, the stuff with housing was just complete nonsense. With perfect certainty and a static equilibrium, you would expect house prices to be flat at a price that capitalized the annual rental equivalent at the market rate of interest. If your house price went down 6.7% or whatever over a 9-year stretch, you wouldn’t say, “Oh that’s OK, I got to live in my house for free.” Fama totally ignored the opportunity cost of the funds you invested in your house in 2003. He stated something matter-of-factly about the preferences of the home buyers that only makes sense if you ignore interest over 9 years. That’s kind of a big deal, especially in a Nobel acceptance speech pertaining to the subject matter for the award.