Sound is produced by vibrations. The stretched balloon picks up vibrations travelling through the water. As the balloon starts to vibrate it amplifies the sound so you can hear it.
Whales can send and receive messages through water many kilometers away due to sound being able to travel faster through water than normal air. Why is this so? Water molecules are packed more tightly than the gas molecules in air, causing vibrations travel to faster through liquids with less energy loss than they do through gases.
For more on the science of sound check out the external link at the Canada Science and Technology Museum.
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