Verdict: Greenspan lifts the lid

Bush, the dotcom bubble and sub-prime lending, the former Federal Reserve chairman reveals all
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The Independent Online

An economic cycle of sorts will be completed today. It began in the wake of the US terror attacks of 11 September 2001, when America's central bank under Alan Greenspan began to lower interest rates to prevent a financial collapse. And, unless almost every forecaster is mistaken, it will end this afternoon when the Federal Reserve policy-makers, under Mr Greenspan's successor Ben Bernanke, announce the first cut in its key short-term interest rate in more than four years – a response to the threat of a new financial collapse triggered by the easy money of the Greenspan era.

From a literary viewpoint, the timing could not be better. Yesterday Mr Greenspan's long-awaited autobiography, The Age Of Turbulence: Adventures In A New World, hit book stores. The 513-page tome is part autobiography, part self-justification and part economic testament. The first half offers an account of his 18 years at the head of the world's most powerful central bank. The second amounts to the thoughts of Chairman Alan about how the global economy was transformed in the final quarter of the 20th century, and the huge new adjustments that will be needed in the early decades of the 21st.

The headlines have been made by Mr Greenspan's unflattering comments about the economic policies of George W Bush and Dick Cheney – his old colleague from the Ford administration. Yet the deeper message of the book is how the mightiest presidents have little sway over economic and financial events, and that the influence of even a Fed chairman regularly voted the second-most powerful person in the country is not much greater. Up to a point, it is a story of government. Far more, however, The Age Of Turbulence is a history of what Harold Macmillan referred to simply as "events, dear boy, events" – from Black Monday six weeks after he was confirmed as Fed chairman in 1987, to financial crises in Mexico, Asia and Russia and the Long Term Capital Management debacle of 1998, to the trauma of 9/11 and now the US sub-prime mortgage crisis.

The narrative unfolds against the roaring bull market of most of the 1990s, itself fuelled by an information and communications revolution that seemed to have made obsolete both the business cycle and the laws of economic gravity. Then came the dotcom bust, followed in turn by a period in which – thanks to globalisation, a vast pool of cheap labour and excess supply – deflation became a greater concern for the Fed than the bank's traditional demon of inflation.

As always with Mr Greenspan, the trick is to read between the lines. The book – dry, at times droll and, above all, written in clear and finite sentences – makes vastly more enjoyable reading than the impenetrable Fedspeak with which he used to mystify the markets. Naturally, it does not explicitly tell the full story. But, occasionally, another Greenspan is discernible, this one almost puckish and secretly relishing the veneration in which he was held, a supremely political figure who professes amazement at the dastardly deeds of the politicians he knew so well.

Mr Greenspan the author plainly loves this public image. He claims to have issued no fewer than five convoluted marriage proposals to his future wife Andrea Mitchell, a correspondent for NBC News. Alas, he notes, "she missed a couple." On a belated honeymoon in Venice, he interrupts a romantic stroll to ask her, "What is the value-added produced in this city?"

Equally incongruous was the scene on 31 December 1999, when the couple slipped away early from a Millennium party thrown by Bill Clinton at the White House to return to the Fed's war room to see if the Y2K bug was causing global computer meltdown. He writes: "I felt out of place in a black tie; most everyone else had on a red T-shirt emblazoned with an eagle and the words 'Federal Reserve Board' and Y2K."

The anecdotes, however, cannot obscure a deeper suspicion about the Greenspan era. To modify the traditional description of a central bank's job, he was far better at lacing the punch bowl with alcohol than at removing the punch bowl as the party got going. His handling of crises, from Black Monday to the sovereign debt defaults of the late 1990s and 9/1l, was deft and sure. His error was an excess of generosity. If he worried about market bubbles, he did precious little to prevent them bursting.

His October 1996 speech warning of "irrational exuberance" in the markets launched a catchphrase of the boom years but created no more than a one-day blip on Wall Street. Similar was his failure to oppose more forthrightly the massive Bush tax cuts of 2001 and 2003 which, in hindsight, he now criticises.

In yesterday's New York Times, under the headline 'Sad Alan's Lament," the columnist Paul Krugman made the case against Mr Greenspan, accusing him of "moral collapse" on the tax cut issue. If he objected back then, Mr Krugman asked, why on earth did he not say so?

The second half of the book provides a partial answer. There, Mr Greenspan sets out his philosophy of libertarian capitalism and peers into the future. The US economy will grow by 75 per cent over the next 25 years, he guesses. But, by 2030, as the impact of outsourcing and cheap labour start to dry up and deficits swell with the retirement of the baby boomers, inflation and interest rates will have doubled. Meanwhile, as the global markets merge into one seamless, speed-of-light whole, the power of governments and regulators will become even less. "We have no sensible choice other than to let markets work," he says. "Market failure is the rare exception and its consequences can be assuaged by a flexible economic and financial system."

In short, even Fed chairmen are fatalists at heart.

Key moments from Greenspan's chequered career

On Black Monday [when the Wall Street exchange plunged by 508 points, or 22 per cent] on 19 October 1987: "To the senior people on the phone with me that night, the urgency and gravity of the situation was apparent. Even if the markets got no worse, the system would be reeling for weeks. Not all of our younger people understood the seriousness of the crisis, however. As we discussed what public statement the Fed should make, one of them suggested, 'Maybe we are overreacting. Why not wait a few days and see what happens?'."

On his fraught relationship with President George H W Bush, who wanted the Fed to cut rates rates faster during the 1990/1991 recession: "I was saddened years later when I discovered that President Bush blamed me for his loss [to Bill Clinton in November 1992]. His bitterness surprised me. I did not feel the same way about him. His loss reminded me of how voters in Britain had ousted Winston Churchill immediately after World War II."

On the collapse in 1998 of the Long Term Capital Management hedge fund: "Even after the smoke cleared, no one knew how highly leveraged LCTM was when things started to go wrong. The best estimates were that it had invested $35 for every $1 it actually owned. Practically overnight, its stunned founders watched the nearly $5bn (£2.5bn) in capital they had built up drain away."

On cutting the Fed's key short- term interest rate to 1 per cent [a 45-year low] in summer 2003: "At the late June meeting of the FOMC [the Fed's policy-setting committee], deflation was Topic A. We agreed on the reduction, despite our consensus that the economy probably did not need another rate cut. But we wanted to shut down the possibility of corrosive deflation. We were willing to chance that by cutting rates, we might foster a bubble."

On the current sub-prime mortgage crisis in the US, for which Mr Greenspan's cheap money policy has been widely blamed: " I was aware then [in 2003] that the loosening of credit terms for sub-prime borrowers increased financial risk, and that subsidised home ownership initiatives distort market outcomes. But I believed then, as now, that the benefits of broadened home ownership are worth the risk."