Question

What is the role of extrapolative expectations in increasing the price level and creating an asset price bubble?

Extrapolative expectations lead people to buy

	more and more assets, leading to ever-higher asset prices that reflect their real value.
	fewer and fewer assets, leading to ever-lower asset prices that reflect their real value.
	more and more assets, leading to ever-higher asset prices that do not reflect their real value.
	fewer and fewer assets, leading to ever-lower asset prices that do not reflect their real value.

  

Answer 1

Extrapolative expectations are the expectations of the future, which people try to predict by observing and analysing facts. For example, if a stock has given a good return in the past, people analyse its data and start buying more and more stock assuming that its real worth is more. Due to which, through constant buying, a stock becomes very expensive and exceeds its real worth. it creates an asset bubble which later leads to its downfall.

In a similar manner, Extrapolative expectations lead people to buy more and more assets, which leads to higher asset prices that do not reflect their real value and hence, creating an asset price bubble. So, the correct answer to this question is the third option.

answered by: anonymous