What stimulates an asset price bubble according to economic principles?

An asset price bubble is primarily stimulated by buyers' expectations of further increases in prices. When investors believe that the value of an asset, such as real estate or stock, will continue to rise, they are motivated to purchase that asset in anticipation of making a profit. This expectation can create a self-fulfilling cycle where increasing demand drives prices up further, reinforcing the belief that the investment will yield high returns.

The psychology of investors plays a significant role in this phenomenon. As prices rise, more buyers enter the market, driven by fear of missing out or the belief that they can sell at even higher prices later. This behaviour leads to rapid price increases that can become unsustainable, eventually resulting in a market correction once the expectations are not met or when the demand subsides.

In contrast, an increased supply of the asset tends to stabilize or decrease prices, government regulations could restrain trading, and declining interest from investors typically leads to reduced prices or market stagnation. Therefore, it is the optimistic outlook of buyers and their anticipation of future price increases that fundamentally contributes to the formation of an asset price bubble.