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Fed's Shortcuts to Greatness
There is only one difference between a bad economist and a good one: the bad economist confines himself to the visible effect; the good economist takes into account both the effect that can be seen and those effects that must be foreseen…
the bad economist pursues a small present good that will be followed by
a great evil to come, while the good economist pursues a great good to
come, at the risk of a small present evil.
–Frederic Bastiat (1801-1850)
Nothing defined Alan Greenspan’s tenure as chairman of the Federal
Reserve Bank more than his wholehearted embrace of capitalism. With
early roots in his 30-year association with the novelist and
philosopher Ayn Rand, that faith grew into an unconstrained confidence
in the free market and deregulation to steer the economy and ward off
crises.
According to a current Fed governor, however, both Greenspan’s Fed and
the Fed today have not been the stalwarts of capitalism that the
Maestro believed them to be.
On March 7th, I had the
great pleasure of listening to Thomas Hoenig speak at the Colorado CFA
Society forecast dinner. Hoenig, the only member of the Federal
Reserve Board of Governors who I respect, is the board’s lone rational
dissenting voice.
After his speech, a lengthy Q&A, and a short conversation with him, I left the event even more impressed with him.
Hoeing was equally
critical of both the Fed’s zero-interest rate policy and of QE2. He
said these policies encourage speculation and don’t allow for price
discovery, and consequently they lead to imbalances, unintended
consequences, and misallocation of resources.
He said it is important
to judge QE2’s success over the right time frame, one long enough to
encompass not just its stimulative benefits but also its consequences.
(In other words, there is a good reason why we don’t judge steroids
solely based on what they do for an athlete’s performance during the race, ignoring the strokes and other health problems they often cause after the race).
Throughout his speech,
Hoenig warned that there are no shortcuts to greatness in monetary
policy. The Fed’s intervention in the economy will have unintended
consequences, and it is impossible to know where they’ll show up. For
example, Hoenig recalled that the Fed lowered the interest rate to 1%
in 2003 and, though the economy was improving, kept rates low levels
for over a year in order to bring unemployment below 6.5%. The asset
bubble that deflated in the financial crisis resulted, and today
unemployment is 10%.
Hoenig’s comments are
extremely important. I too believe that the Fed’s actions in 2003
played a very large role in the subsequent real estate bubble,
financial crisis, and today’s high unemployment, but this was the first
time I’ve heard such an admission come directly from a Fed governor.
To the contrary, Greenspan has been outspoken in denying the role he
and the Fed played in the crisis.
Hoeing said he questions
whether quantitative easing, which failed in Japan, will work in the
US. He bluntly stated that too-big-to-fail financial institutions like
Citigroup, Wells Fargo, JPMorgan Chase, and others should be broken
up. (I argued that point in this article.)
Commercial banks are in charge of our domestic and international
payments system, but their access to FDIC insurance and the Fed’s
discount window (use of which swelled from $900 million to $3 trillion
over the last two years), constitutes “an enormous protection” to the
financial sector, encouraging risk-taking through an implicit guarantee
in the event of a crisis or failure.
Smaller institutions that
don’t have access to the Fed’s fund window have to compete in that
space, and they start behaving and taking risks as if they have access
to the window. The walls between commercial and investment banks have
been demolished, Hoenig argued, and the two functions within banks are
now joined at the hip. In the wake of this crisis, Hoeing said we did
the same things we did after previous crises: added supervision and
regulation and raised capital requirements. But history suggests that
as time goes by we’ll forget about the crisis and history will repeat
itself, he said – unless we break up too-big-to-fail institutions.
It is a fundamental
tenet of American capitalism that central planning of economies
doesn’t work in the long term, whether in Soviet Union historically or
in China today. But I often wonder: How is the Fed’s Board of Governors
– the proverbial 12 guys in a room – any different than the 24 guys in
a room who make up the Chinese politburo? The non-democratic Chinese
may have a few more levers to push – an ability to force banks to lend,
for example – but short of that, how is the Fed’s micromanagement of
interest rates any different from China’s? After Hoenig came off the
stage, I posed the question to Hoenig, and I asked him point-blank
whether the Federal Reserve is an anti-capitalistic entity.
To my shock, Hoenig agreed with me: The Fed is anti-capitalistic.
I went further. In the
midst of the 2008 financial crisis, to prevent the freezing up of the
US financial system and possible bank runs, the Fed put in place QE1 –
it purchased over a trillion dollars of mortgage and agency debt. Like
J.P. Morgan in the pre-Fed era, the Fed was the lender of last resort.
But QE2 is drastically different from QE1, because the banking system
is far from choking, and now the Fed’s goal is to lower unemployment
and grow the economy at a higher rate (here is my article on QE2).
I asked Hoenig if he
thinks the Fed should stick to its mission as lender of last resort, as
it was during QE1, letting the free market set interest rates. He
looked at me with an expression that implied he couldn’t have said it
better himself and agreed.
I am very familiar with
confirmation bias, our desire to seek out people with whom we agree.
But Hoenig is not your usual person; he is member of the Federal
Reserve Board of Governors, and he disagrees with almost everything
that institution does.
Hoeing’s courage and
principled vision elevate him to the status of a “good economist,” as
defined by Frederic Bastiat over 150 years ago. Let’s hope that his
voice, in a room full of bad economists, does not fall entirely on deaf
ears.
Vitaliy N. Katsenelson, CFA, is Chief Investment Officer at Investment Management Associates in Denver, Colo. He is the author of The Little Book of Sideways Markets (Wiley, December 2010). To receive Vitaliy’s future articles by email, click here or read his articles here. .
On Media
My witty, fast-thinking
friend Jeff Macke is back on the horse.
Jeff used to cohost Fast Money
on CNBC; he is now cohosting a show on Yahoo called Breakout. On his
first show he had Jim Rogers, who
is worried about high corporate profit margins (so do I), and wants to shut
down the Fed. As you’ll see from the
article attached, I am not a big Fed fan either. I wish Jeff good luck; he is very talented
and will make that show a must-watch.
Yahoo, despite
semi-failing in its core business, has done a great job producing TechTicker, hosted by Aaron Task and Henry Blodget. I watch it
religiously. Since it is a web-only
show, TechTicker is not constrained
by the traditional “We have to go to commercial” TV format, and thus guests
speak in full sentences, not sound bites.
This brings me to James Altucher, who was
on TechTicker on Monday, arguing that
“The media owes
everyone an apology for over-hyping the Japan nuclear crisis.” I “met” James in 2004 when I started to writing
for The Street.com, and he was writing for it as well. Actually, met
is the not the right word: we communicated by instant messenger for six years
until we met face to face last year.
James is brilliant (I don’t say it lightly – he is a nationally ranked
chess master). I don’t agree with everything he writes, but I still read
everything he writes. He is one of the
most original thinkers I’ve ever met, a serial entrepreneur (he started StockPickr.com,
which he sold to TheStreet.com, which later ran into the ground), a hedge fund
manager, and a prolific writer (he has written five
books).
A few months ago James started a blog,
Altucher Confidential, which
is the only nonfinancial blog I read every day.
No, he did not kidnap my children. Just read it and you’ll see why I love his
writing.
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GREENSPAN'S A TRAITOR and LOYAL TO JEWISH POWER ELITE, NOT AMERICAN CITIZENS
During the Clinton years, when Clinton was buying back U.S. Treasuries, he said, "it is not a good idea to retire much of the treasury debt".
He wanted us to be forever under the oppressive FED stranglehold.
No amount of "puff-piece" BULLSHIT is going to change my very researched view of him and his ZIONIST henchmen.
oh noes not the joos!
There is a chance he is John Galt.
http://www.24hgold.com/english/contributor.aspx?contributor=Bix%20Weir&article=1584016510G10020
But the fact that he married Andrea Mitchell makes the whole thing unlikely.
PUKE.
+1
What libertarian would marry lefty Andrea Mitchell?
Greenspan had the same job as Bernanke, which is to make as much money for the banking cartel as possible. And if this means allowing fraud and theft by bankers, so be it.
The ultimate goal of the central banks and the elites who own them are to control the wealth, and therefore the governments, of the entire world.
Once the USD and the Euro collapse, they'll make us use some world currency of some sort, which will also be debt-based and issued by a "central bank". At that point the plan will just about be complete.
The plan is gold-backed currency: that's how they'll distribute their gold.
SINCE THEY HAVE THE GOLD, THEY WILL MAKE THE RULES?
Greenspan spoke shuck and jive while chasing his tail when in power. It was only after he left that he spoke understandable English.
Spot on. Why doesn't he really retire? He's caused enough problems as it is.
Mr. Katsenelson makes the error of confusing corporatism (i.e. fascism) with capitalism. Capitalism is not "pro business" as in looting the populace to give to select politically-connected corporations! Capitalism is the rule of law and free markets. If a company fails, so be it. Capitalism does not have:
- FDIC "moral hazard" insurance
- irredeemable paper currency imposed on people by force
- a central bank to plan the economy
- community reinvestment act
- a punitive tax code that is slightly less onerous if you buy a house
- bank regulators, commodities regulators, securities regulators, regulators up the wazoo
- a lender of last resort, aka a penny to put in the fuse box
I am sure I missed a few thousand things, but it is disingenuous to say that Greenspan was a supporter of free markets while he was in office. It is patently false to say that the US had a free market in recent memory.
+1
++ Kinda goes hand in hand with bringing democracy and nation building to resource rich sovereign countries.
+1
The Fed did a terrific job... destablizing the US economy.
Internet stock bubble and crash = check
Housing bubble and crash = check
Massive quantitative easing & subsidizing massive federal deficit spending = check
They want to destabilize the global economy next. Look out!
did she make you randy? Sunday afternoons a good time to celebrate the devil after having celebrated the Lord in the morning.
http://www.youtube.com/watch?v=5KmPLkiqnO8
Bill Buckley talks about Ayn Rand. Bill Buckley was always controlled opposition in order to keep those wascally freedom loving and liberty loving conservatives on the rez.
I remember seeing Rand on PBS on Sunday afternoons sometimes, a long time ago.
How is bailing out LTCM an unrestrained show of confidence in capitalism? Letting the chips fall where they may would have been confidence in capitalism, not "Oh noes! Some of the powers that be in the financial world might be temporarily hurt by this!"
How is setting interest rates too low and intentionaly starting a nationwide housing bubble to avoid a recession after the dot com bubble burst an unrestrained show of confidence in capitalism?
There's 1966 pro gold standard Greenspan and Fed chairman Greenspan. The two have very little in common. The former wanted a free market. The latter was doing the bidding of the powers that be who wanted a free hand to cheat most of the market.
The US housing bubble was cause more by loose underwriting standards than by low interest rates. Were the Fed’s low interest rates responsible for the housing bubbles in Spain and Ireland? No-insane securitization was. Also remember that Greenspan tried to raise long term rates after 2003 but was thwarted by strong capital inflows buying US bonds-a.k.a the savings glut. Has the US mortgage market stayed with the tried and true 20% down and 30% of income requirements you would not see the problems you have today.
When you are goring oxes, you must always make sure it is not your own ox that is being gored.
+1
Greenie is one of those people that will never go away.
Greenspan was in a state of perpetual irrational exuberance since his nomination in 1987 until his departure in 2006. Like Alice in Wonderland. He woke up in 2007...like Cinderella without her carriage, in her pumpkin...Now he is looking for her other lost shoe...poor Cinderella, without her prince charming, of Wonderland-Wall Street, now fast rising like smoldering, marriage cake under the bellows of QE...into thin air.
I remember many times listening to him blather on, and for the life of me, it seemed like most of the time, I could not follow what it was he was talking about. I would watch the congressmen listening to him and they would have smiles on their faces and looking at each other. Is it just me, or is this guy talking a bunch of jibberish? ha ha ha
What a load of crap, Greenspan knows who his master is, always has. Until pricing and valuation are attached to reality, nothing changes.
Sorry to disagree Mr.K.: Greenspan knew exactly what he was doing and also whom he was working for. I'm not at all fooled by his befuddled mien. I'm also sure he knew about the whole derivatives scam and what the results would be.
Agree entirely Eddie. While Greenspan talked the libertarian game, he wasn't dumb enough not to understand government, as chief mortgage insurer and chief deposit insurer, would cause the market aberrations that would crush the economy. Of course, the dishonest would paint this as a libertarian and capitalist failure as opposed to what it really is....just the opposite.
It drives me nuts that Greenspan is considered a Libertarian. No Libertarian would ever work for a Central Bank. It makes as much sense as a born again Christian working at an abortion clinic.
Agree, those people are not stupid it might have started innocently(not) but now it's full prejudice