Herd Behavior or Animal Spirits: A Possible Explanation of Credit Crunches and Bubbles

Abstract

Casual Observation of bank behavior would suggest that banks often act in tandem, expanding and contracting lending in concert. Sometimes banks’ actions are consistent with aggregate economic activity and attract little notice. At other times, bank lending practices receive greater scrutiny because either economic conditions do not appear to warrant expansion or contraction or their behavior appears, at least ex post, to contradict sound banking practices. Two recent examples of rapidly increasing aggregate lending were the expansion of loans to less developed countries (LDCs) in the 1970s and loans to finance real estate expansion in the United States during the mid-1980s. Examples of credit crunches are the real estate credit crunch of 1989–1992 as well as those in 1966 and 1969.