Question

often a financial crisis is initiated by an asset price bubble. how does it affect the asymmetric information problem and economic activity when this bubble bursts?

Answer 1

When a bubble bursts, it impacts asymmetric information and economic activity through a correction in asset prices and a decrease in consumer and investor confidence.

Step-by-step explanation:

When an asset price bubble bursts, it can have a significant impact on the asymmetric information problem and economic activity. Firstly, the bursting of a bubble reveals information about the true value of the asset, which may have been distorted during the bubble period. This can lead to a correction in prices and a reduction in the information asymmetry between buyers and sellers. Secondly, the bursting of a bubble can have a negative impact on economic activity as it can lead to a decline in consumer and investor confidence. This can result in a decrease in spending, investment, and overall economic growth.