Submitted by James Miller of the Ludwig von Mises Institute of Canada
Alan Greenspan Asked For Advice, Do People Ever Learn?
That is the only way to express this author’s utter bewilderment that former Federal Reserve chairman Alan Greenspan is still given an outlet to speak his mind. Actually, I am surprised Mr. Greenspan has the audacity to show his face, let alone speak, in public after the economic destruction he is responsible for.
It was because of Greenspan, of course, that the world economy is still muddling its way along with painfully high unemployment. His decision to prop up the stock market with money printing under any and every threat of a downtick in growth, also known as the Greenspan Put, created an environment of easy credit, reckless spending, and along with the federal government’s initiatives to encourage home ownership, the foundation from which a housing bubble could emerge.
It was moral hazard bolstering on a massive scale. Wall Street quickly learned (and the lesson sadly continues today) that the Federal Reserve stands ready to inflate should the Dow begin to plummet by any significant amount. Following his departure from the chairmanship and bursting of the housing bubble, Greenspan quickly took to the press and denied any responsibility for financial crisis which was a result in due part to the crash in home prices. In his infamous 2009 Wall Street Journal editorial, he had the nerve to blame availability of credit which financed the run-up in home prices to a “savings glut” in Asia. He writes:
[T]he presumptive cause of the world-wide decline in long-term rates was the tectonic shift in the early 1990s by much of the developing world from heavy emphasis on central planning to increasingly dynamic, export-led market competition. The result was a surge in growth in China and a large number of other emerging market economies that led to an excess of global intended savings relative to intended capital investment. That ex ante excess of savings propelled global long-term interest rates progressively lower between early 2000 and 2005.
Sounds convincing right?
Much of the aura of greatness attributed to Greenspan throughout his term as chairman was due in part to the purposefully overly-technical language he used when talking to reporters. Here he utilized the same technique, albeit in a simpler manner, to obscure the Fed’s role in the housing bubble. His explanation falls on its face though when looking at key historical data and by asking the right questions. As University of Georgia economics professor George Selgin documents, Greenspan’s lowering of the fed funds rate, that is the rate banks pay each other to borrow money on the overnight market, coincides with the lowering of mortgage interest rates when taking account for the variable lagging effects of monetary policy:
To put downward pressure on long term mortgage rates, an increased pool of dollars had to be available. If Asian economies experiencing an unprecedented increase in savings were to invest in the United States and provide the financing for reduced mortgage rates, there would have to be an increasing supply of dollars available for Asian savings to funnel into the U.S. And as economist George Reisman brilliantly shows, the “savings glut” argument doesn’t stand when taking into account the following questions and observations:
First, if saving had been responsible, rather than credit expansion and the increase in the quantity of money, there would have been a corresponding decline in consumer spending in the countries allegedly doing the saving. The fact is that there was no such decline.
Second, saving implies a growing supply of capital goods, more production, and lower prices, including lower prices of capital goods and even of land. These are results that are incompatible with the widespread increases in prices typically found in a bubble.
Third, if somehow saving had been responsible for the housing bubble, the spending it financed would not suddenly have stopped. Such stoppage is a consequence of the end of credit expansion and the revelation of a lack of capital.
Fourth, if large-scale saving rather than credit expansion had been present, banks and other firms would have possessed more capital, not less. They would not be in their present predicament of having inadequate capital to carry on their normal operations. This situation of insufficient capital is the result of malinvestment and overconsumption, which are the consequences of credit expansion, not saving.
Fifth, in the absence of increases in the quantity of money and overall volume of spending in the economic system, saving also implies an immediate tendency toward a fall in the economy wide average rate of profit. This is another result that is incompatible with what is observed in a bubble or boom of any kind, which is surging profits so long as “the good times” last.
It should be perfectly clear at this point that Greenspan holds the majority of the blame for the housing bubble. And yet many financial media outlets still see the former central banker as a type of guru on global economic affairs. Sure enough, Greenspan headed the institution predominately culpable for the state of the global economy. The Federal Reserve’s monopoly over the supply of the dollar, still the world’s reserve currency, means its policies often have repercussions on a grand scale.
Recently in the Financial Post, Greenspan was interviewed and offers some thoughts on the Eurozone crisis and what path should be followed to rectify the ongoing sideshow.
Q. So what is the possible outcome?
A. At the moment, northern Europe finances southern Europe. There is tax evasion and illegal commerce in Greece, Italy, Portugal, Spain. The European Central Bank is printing money to finance all the shortfalls in fiscal deficits of southern Europe. This has to stop at some point and when it stops, you are going to have a major confrontation of the euro and all countries will have to make a fundamental choice. The only resolution is political union of the eurozone countries.
For a supposed free marketer, it’s awfully strange that Greenspan would regard tax evasion as a bad thing. Money not forcefully plucked by the highway robbers occupying the public offices of the PIGS is better used in the private sector where consumer needs are satisfied; not political ones. It stands to be reckoned that tax evasion is actually playing a significant part in keeping the economies of these heavily indebted countries afloat. As I have noted before:
Tax evasion is typically listed as a “problem” for Greece- economist Martin Sullivan calls it “disrespectful”- but evasion is only a problem if one considers the person who flees from a mugger a problem for the mugger himself.
Greenspan really lets his statist side show by calling for political unionization as the only feasible solution. Though it is true that monetary unions have never survived unless united politically, Greenspan treats a break up as out of the question when the EU is indeed breaking up before the world’s collective eyes. The debts are too high and no politician in either country seems willing to take the necessary steps to rollback the welfare state and spending. Crying foul over brutal austerity measures has become all the rage despite the fact that no real austerity is taking place. The economic truth that you can’t spend what you don’t have is being ignored by the ruling class as the citizens of the PIGS keep buying into the fantasy that their elected and appointed leaders are truly looking out for them.
Greenspan’s advocacy of a European political union is demonstrative of his bent toward overall centralization of power. No man principled enough to believe in liberty and free markets would ever utter such nonsense.
Greenspan is then asked point blank over his alleged belief in the ability for the market to correct itself in lieu of government regulation.
Q. You mentioned in 2008 at a Congressional hearing that you had placed too much faith into self-correction on the part of markets, so do you think the new regulations will protect the public?
A. It’s doubtful. I was on the J.P. Morgan board where we were acutely aware of maintaining our credit rating and how important that was. I thought all banks thought that way and they would be the best protectors, but I was mistaken. A number of banks allowed significant contraction of capital and indeed, towards the end Bear Stearns had 3% capital, unheard of in a banking system. I’ve had to change my view and you cannot count on bankers to protect their own equity. This is why I’m strongly supportive of higher regulated capital requirements now.
Again, Greenspan ignores how his actions affected the decisions of major banks to overleverage themselves. From the tech boom and bust to the housing bubble, Greenspan gave a clear signal to the banking system that he would be there to save the day with the printing press should it find itself much too leveraged to sustain a turn for the worse. This precedent dates back to bailout of Long Term Capital Management as popular financial blogger Barry Ritholtz explains in his great book Bailout Nation:
Of course, that’s not how Greenspan saw it. The failure of LTCM would have had a very negative impact on psychology. Woe to the Fed Chair who allows traders to become morose! That was how Mr. Atlas Shrugged rationalized the intervention. (Thank goodness Ayn Rand was already dead).
Whether that would have turned out to be true is a matter of much dispute. The evidence leads me to surmise that not only would LTCM’s demise not have caused the system to collapse, it would have done a world of good.
Had LTCM been allowed to fail naturally, perhaps a lesson might have been learned: risk and reward are each sides of the same coin. Alas, it was a missed opportunity for the traders and risk managers at major banks and brokers to learn this simple truism. The parallels between what doomed LTCM in 1998 and forced Wall Street to run to Washington for a handout in 2008 are all there, and the significance of these missed opportunities are now readily apparent.
Ritholtz unfortunately makes the same mistake the interviewer at the Financial Post did in attributing Greenspan’s belief in the unfettered market to influencing his decision to bailout private companies that made bad bets. True capitalism is about profits and losses; no matter the contagion effects. Engaging in bailout after bailout demonstrated the exact opposite of what is often ascribed to Greenspan; that he was not a defender of free markets but someone who headed the greatest state-authorized regulatory body in the world.
Much like he does on all of these matters, Murray Rothbard had Greenspan’s number even before the tech bubble. Writing in the Free Market in 1987, Rothbard hits the nail on the head:
Greenspan’s real qualification is that he can be trusted never to rock the establishment’s boat. He has long positioned himself in the very middle of the economic spectrum. He is, like most other long-time Republican economists, a conservative Keynesian, which in these days is almost indistinguishable from the liberal Keynesians in the Democratic camp.
As an alleged “laissez-faire pragmatist,” at no time in his prominent twenty-year career in politics has he ever advocated anything that even remotely smacks of laissez-faire, or even any approach toward it. For Greenspan, laissez-faire is not a lodestar, a standard, and a guide by which to set one’s course; instead, it is simply a curiosity kept in the closet, totally divorced from his concrete policy conclusions.
Thus, Greenspan is only in favor of the gold standard if all conditions are right: if the budget is balanced, trade is free, inflation is licked, everyone has the right philosophy, etc. In the same way, he might say he only favors free trade if all conditions are right: if the budget is balanced, unions are weak, we have a gold standard, the right philosophy, etc. In short, never are one’s “high philosophical principles” applied to one’s actions. It becomes almost piquant for the Establishment to have this man in its camp.
Greenspan’s advocacy of laissez-faire is nothing but a mythical trait evoked to tarnish those who believe in actual free markets. Because of Greenspan’s inept leadership, Keynesians, politicians, and the like can paint the uninhibited market as unstable and subject to huge failures when actual capitalism hasn’t been attempted in the U.S. in over a century. And even then the free market wasn’t allowed to prevail due to regulation at the state level and legal tender laws.
Greenspan was never a believer in the freedom of the market. His adoration of capitalism was a disguise for his real motive to be chief regulator. That’s why, when asked what keeps him up at night, he answers “What could go very wrong if the euro busts up.”
The answer is nothing could go wrong when considering the long term. The breakup of the euro would go a long way in fixing the damage done by fiat currency and the central banks which provide it.
In a just world, what would ensure Greenspan’s sleeplessness at night should be the prospect of hordes of pitchfork-armed, disgruntled unemployed waiting to take out their frustration on his disastrous tenure as head of the Fed. Instead, he frets over the breakup of the Eurozone which is coming regardless of decisions the buffoon technocrats come up with to keep the party going just long enough to cash out on their respective government’s dime.
The fact that he is the keynote speaker at the upcoming International Economic Forum of the Americas/Conference of Montreal shows just how clueless the participants at such a forum are. Taking his advice will only lead the world into further monetary chaos. Rather than a valiant defender of the market, Greenspan championed money printing, otherwise known as counterfeiting in any other industry, as the perfect vaccine for economic ills. His greatest accomplishment was selling the world Keynesian snake oil wrapped in an articulate package. He got out of the house of cards before it tumbled beneath the feat of his successor who is following the Greenspan rulebook to a tee.
Publications that seek Greenspan’s advice show their true ignorance of the financial crisis and its foremost cause. Given his track record, it’s a safe bet that anything the former Fed chairman recommends will benefit the establishment and banking sector over the general public.