The Tipping Point

Epidemiology is the study of how something spreads throughout a population.  Traditionally, the subject of such analysis is related to healthcare e.g. disease outbreak or surveillance but in 2000, Canadian journalist Malcolm Gladwell released his international best-selling book "The Tipping Point"  which examines how epidemiology can be used to understand how social phenomena can permeate through a population in the same way that viruses do.

Gladwell defines the tipping point as "the moment of critical mass, the threshold, the boiling point." That is to say, the moment when the idea really explodes.

He goes on to describe three rules of epidemics that lead to an idea reaching this tipping point and going viral:



1) The Law of Few



This rule states that there are three kinds of people needed for an idea to spread; connectors (who have wide social networks), mavens (information specialists) and salesmen (who have the power to persuade others).

Relating this to financial bubbles and specifically the recent US housing bubble, who could have taken on each of these roles?



Connectors - in my mind, this has to be the media.  Throughout the housing boom, news reports were positive about the housing market and television ads etc made the public very much aware of mortgage deals on offer.



Mavens - the technical experts in this case must be investment banks and other financial intermediaries who developed mortgage backed securities (MBS) and pricing models.



Salesmen - in this case, they could be those who sold mortgages to the public in the first place.




2) The Stickiness Factor



This rule addresses how sticky  the idea is.  I think earning great returns on an investment is probably about as sticky  as it gets - the chance to live the American dream!




3) The Power of Context

(I'm going to put this in a separate post)


Whilst Gladwell has come under some criticism for this theory, it does seem to add up in this case: banks develop a method of securitization involving property and increase activity in the market.  House prices begin to rise and the news starts to make headlines.  The public become aware of the news and confidence in house prices rises.  Then the institutions that offer mortgages find new products and attempt to outdo each other by offering 125% mortgages etc.  House prices rise and rise and the idea that this is a safe investment and a great way to make money and improve lifestyles spreads.  And this idea travels further and further through society to a point where everyone has a big mortgage and anyone with large savings is interested in property development.  And so the bubble expands as the idea works its way through the population.  From the graph below, there looks to be a tipping point at around the same time Gladwell's book was published in 2000.

A similar tipping point  then occured in 2007, when the market went the other way, as beliefs were reversed.