Once there was a little island country. The land of this country was the tiny island itself.
The total money in circulation was 2 dollars as there were only two pieces of 1
dollar coins circulating around.
1) There were 3 citizens living on this
island country. A owned the
land. B and C each owned 1 dollar.
2) B decided to purchase the land from
A for 1 dollar. So, now A and C own 1 dollar each while B owned a piece of land
that is worth 1 dollar.
* The net asset of the country now = 3
dollars.
3) Now C thought that since there is only one piece of land in
the country, and land is non producible asset, its value must definitely go up.
So, he borrowed 1 dollar from A, and together with his own 1 dollar, he bought
the land from B for 2 dollars.
*A has a loan to C of 1 dollar, so his net
asset is 1 dollar.
* B sold his land and got 2 dollars, so his net asset is 2
dollars.
* C owned the piece of land worth 2 dollars but with his 1 dollar
debt to A, his net residual asset is 1 dollar.
* Thus, the net asset of the
country = 4 dollars.
4) A saw that the land he once owned has risen in
value. He regretted having sold it. Luckily, he has a 1 dollar loan to C. He
then borrowed 2 dollars from B and acquired the land back from C for 3 dollars.
The payment is by 2 dollars cash (which he borrowed) and cancellation of the 1
dollar loan to C. As a result, A now owned a piece of land that is worth 3
dollars. But since he owed B 2 dollars, his net asset is 1 dollar.
* B
loaned 2 dollars to A. So his net asset is 2 dollars.
* C now has the 2
coins. His net asset is also 2 dollars.
* The net asset of the country = 5
dollars. 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
dollars. The payment is by borrowing 2 dollars from C, and cancellation of his 2
dollars loan to A.
* As a result, A has got his debt cleared and he got
the 2 coins. His net asset is 2 dollars.
* B owned a piece of land that is
worth 4 dollars, but since he has a debt of 2 dollars with C, his net Asset is 2
dollars.
* C loaned 2 dollars to B, so his net asset is 2 dollars.
*
The net asset of the country = 6 dollars; even though, the country has only one
piece of land and 2 Dollars in circulation.
(6) Everybody has made money
and everybody felt happy and prosperous.
(7) One day an evil wind blew,
and 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 dollars in circulation, and, I
think after all the land that B owns is worth at most only 1 dollar, and no
more.”
(8) A also thought the same way.
(9) Nobody wanted to buy
land anymore.
* So, in the end, A owns the 2 dollar coins, his net asset
is 2 dollars.
* B owed C 2 dollars and the land he owned which he thought
worth 4 dollars is now 1 dollar. So his net asset is only 1 dollar.
* C has a
loan of 2 dollars to B. But it is a bad debt. Although his net asset is still 2
dollars, his Heart is palpitating.
* The net asset of the country = 3 dollars
again.
(10) So, who has stolen the 3 dollars from the country ? Of
course, before the bubble burst B thought his land was worth 4 dollars.
Actually, right before the collapse, the net asset of the country was 6 dollars
on paper. B’s net asset is still 2 dollars, his heart is
palpitating.
(11) B had no choice but to declare bankruptcy. C as to
relinquish his 2 dollars bad debt to B, but in return he acquired the land which
is worth 1 dollar now.
* A owns the 2 coins, his net asset is 2
dollars.
* B is bankrupt, his net asset is 0 dollar. ( he lost everything
)
* C got no choice but end up with a land worth only 1 dollar
* The
net asset of the country = 3 dollars.
************ **End of the story;
BUT ************ ********* ******
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
individuals to one another in a country 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 over-damped system is
assumed when the bubble burst, meaning the land’s value did not go down to below
1 dollar.
(4) When the bubble burst, the fellow with cash is the winner. The
fellows having the land or extending loan to others are the losers. The asset
could shrink or in worst case, they go bankrupt.
(5) If there is another
citizen D either holding a dollar or another piece of land but refrains from
taking part in the game, 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) As in
the case of land, the above phenomenon applies to stocks as well.
(9) The
actual worth of land or stocks depend largely on psychology (or
speculation).
Nice explation-candid way to see how money moves…Alas our finanical wizkids may learn a lesson from this..
lock,stock & empty barrels…dollars also
laut ke budhhu gahr aaye………….nice ly discribed picture of world finance