What GameStop’s bubble looks like

The fallout from some bubbles is also more tolerable than others. Beckworth points out that the crash from the ’90s tech boom had a more muted effect compared to the housing crisis. Because the tech boom was equity-financed, it mostly hit tech companies and their investors, whereas the housing crisis tanked the entire economy. The resulting recession from the tech bust was relatively short and shallow, lasting eight months and causing only a minor dip in growth and employment.

In this case, shares of GameStop and other companies in the Reddit rally are still only a tiny share of the market. And even if there were a broader market correction, it isn’t clear that it would cause a big contraction, says Beckworth. “People would lose equity, but it wouldn’t lead to the problems of homes financed with mortgages and exotic mortgage securities,” he adds.

Picking the Fed’s battles

The Fed is weighing the fallout of such a correction against concern about the broader recovery. “If you raise interest rates enough to really change people’s expectations, you are dealing with a very high likelihood of causing a recession,” says economist Adam Posen of the Peterson Institute for International Economics. “On the other hand, if you raise interest rates quite a bit, you are not by any means assured that you would pop the bubble.”

An alternative backstop is to ensure the volatility doesn’t reach the balance sheets of financial institutions. That Robinhood, the trading platform at the center of the GameStop frenzy, didn’t have enough capital to carry out its transactions is a “flashing warning sign that we need to rethink how much capital firms like these need,” says Posen. “I don’t care if Robinhood or a hedge fund goes out of business as long as their failure doesn’t lead to a cascade of failures to make payments.”

Posen and other economists advocate for the Securities and Exchange Commission to ratchet up the reporting and leverage requirements on firms like Robinhood, to align with the heftier regulations on banks. The SEC already requires brokerages to meet certain capital thresholds and clear its trades through third parties. Since Robinhood cited these requirements as its reason for tamping down GameStop trading, more of those rules just might work.

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