Since the 2006 peak, housing prices, adjusted for inflation, have fallen nearly 15 percent. Where they’ll go from here is uncertain; we are in uncharted territory. Between 1997 and 2006, real home prices in the United States rose 85 percent; this run-up was historically unprecedented. There was no rational basis for it: fundamental indicators such as the ratio of home prices to building costs, or to rents, or to personal income, also soared, suggesting unsustainable price levels. (The idea that the country is running out of residential space is no more true now than it was during the manias of the 18th and 19th centuries.)

Already, the crisis has infected other sectors besides housing. Credit-card and automobile-loan defaults have been increasing. The credit ratings of municipal- bond insurers are being downgraded, and the market for corporate debt is troubled. If housing prices keep falling, the impact of the crisis on the broader economy will be amplified further. Both Sweden and Mexico experienced severe recessions after profligate mortgage-lending booms in the early 1990s. Japan suffered a “lost decade” after its housing bubble burst in 1991. We may wish to think of the current economic setback as a one-act play, soon to end, but it could be only the first act of a long and complex tragedy.

How can we inoculate ourselves against a recurrence of this whole awful cycle? Government officials today are rightly pushing regulatory reform to prevent lending abuses and reckless behavior among financial institutions. But that doesn’t address our psychological vulnerability to bubble thinking, which seems greater than it’s ever been. During the stock-market boom of the 1990s, the national psyche, long infused with a Protestant work ethic, seemed to undergo a transformation, and the idea arose that we could expect to make a lot of money by investing. At the same time, the proportion of Americans owning stocks and homes was increasing. We should be happy that more people are investors and homeowners today, but those latest to the game are often the least sophisticated players, most susceptible to irrational optimism—one reason why the most-recent stock and housing bubbles grew so large.

Irrational exuberance is bound to pop up from time to time; we can’t stop it altogether. But we probably can limit it, preventing some bubbles and keeping others smaller. Boom thinking is carried along by bad arguments and bad information. The key to keeping the transmission rate low and the removal rate high, if you will, is better dissemination of reliable information—something the government should focus on over the coming years.

Many households have access to very little financial insight. In most cases, the only financial professionals they come into contact with are trying to sell them something, whether it’s a mortgage or a stock. Independent financial advisers, who provide more-comprehensive advice, have typically been available only to the relatively wealthy. The questions most people need answered are elementary: How risky is this investment? Have prices ever gone up this fast for this long before? Can I afford this loan if interest rates rise? But they’re not getting straight answers to these questions.