Alan Greenspan became something of a cult figure in the financial markets during his reign as Chairman of the Federal Reserve, both in the financial markets and in the media. As central banker of the largest economic powerhouse, his every move and utterance were scrutinized as markets boomed and reeled, often based on his speeches and long winded assessments. There was even a jargon attributed to him, “Greenspeak” which was a blend of seldom understood nuances and signals. Most bond traders, glued to their screens during his prose, would simply be baffled by the amount of cross currents in his statements. Financial media, obsessed with Fed action over monetary policy, went as far as trying to gauge his upcoming decisions, based solely on the perceived size of his briefcase, or the tempo of his walk into the Federal Reserve building. The man wielded great power, and maintained, despite his friendships across the political spectrum, an aura of independence from political wrangling and calm from the storm of the financial markets.
While Alan Greenspan will surely be associated with an era of great prosperity for the US, one where the housing boom seemed eternal and where shares blew out all other asset classes (at least until 2001), his main qualities were mostly in his character. He seemed to ooze confidence and serenity, and at many times, such as during the many wars, 9/11 and its aftermath, and the Y2K scare, his mere presence comforted market participants. His pragmatic approach to monetary policy, and his fondness for the most subtle signs of inflationary pressure made him a Wall Street icon. It is debatable, however, whether, in a few years time, he will be remembered so fondly. His personal traits will endure, but his financial legacy is one of excesses. He presided over a period of excess debt both on an individual and country level, and more importantly, over the final demise of the US Dollar as a safe store of value. Greenspan, despite orthodox policy views, allowed the liquidity orgy to go on, amplified by booming and unregulated lending and hedge funds, and this will not go down as an achievement when the chips eventually tumble.
While Greenspan was fixated in avoiding systemic risk, i.e. risk of a financial system breakdown, and often cushioned great potential disasters such as the Mexican, Asian and Internet collapses, he appears to have done little to push for healthier fiscal priorities for the US. During his era, the US went on a debt spree going from the largest creditor nation in the late 60s to the largest debtor nation, literally living off China and other emerging country reserves. Today, the US is completely dependent on foreign capital to sustain itself, and while this may not be his doing alone, his lax policy with regard to the currency and his soft approach to the twin deficit will come back to haunt his successor. The loose policies which Greenspan adopted, favoring calm on Wall Street over healthy and sound targeting is in part responsible for the heavy debt among of US households, and the excessively easy entry for weak companies into the capital markets. These two factors will be doubtless sources of strain on the US economy going forward in the future.
The degree of US economic supremacy over the last three decades has more to do with the global changes which occurred, and while Greenspan seems to be credited with a lot of the gains made by the US, some purists, such as previous Fed Chairman Paul Volcker cast a doubt over the sustainability of those gains, given that the US has become such an intensely service-oriented economy. It is often said that Greenspan will be better remembered by financial conglomerates than by say, auto giants where the US’s position has eroded.
In a previous piece in EXECUTIVE, we spoke of the relevance of Fed policy in general. We believe that the role of central banks and that of Greenspan and his ilk, had been reduced by the mushrooming size of the credit markets. During the Greenspan years, especially since the mid-1990s, the bond market became the spearhead in defining monetary policy, giving birth to the notion of Bond market vigilantes. In fact, Greenspan’s policy on interest rates seemed to follow the bond market’s perceptions, not the other way around. As an inflation fighter, Greenspan is credited with a long period of low inflation, and while even that is debatable, since incomes have been stagnant in the US on an inflation adjusted basis for nearly half a century, the main impetus behind the well-behaved Consumer Price Inflation was a by-product of many factors outside his area of remit. The inflow of cheap imports from abroad, as well as the absence of collective wage bargaining, was the main reason, not the Greenspan magic.
It can be argued that one of the main flaws of the Greenspan era was the poor communication from the Federal Reserve. Often cryptic and incomprehensible to most market watchers, the Fed statements became an exercise in semantics and seldom sent the real message which often added volatility to the markets. The last legacy of disaster left by Greenspan, one which is most likely to come to the forefront, is his lax approach to the advent of large rogue unregulated hedge funds, which allowed the over the counter derivatives market to reach unfathomable levels. In fact, this is where system risk is likely to emerge. If one looks at the numbers of large money center banks closely, they have become more like casinos, with outstanding derivative commitments frequently a multiple of the size of their core banking operations. Structural changes made Greenspan associated with long periods of economic expansions and relatively short recessions, but one feels that those were not his own doing, but rather trends stemming from globalization and the dynamism of US corporations.
Years of excess
The successor of Alan Greenspan, Ben Bernanke is certainly qualified from an academic perspective. He completed his graduate work at MIT and taught at Princeton since the early 1980s. He is however known for his laissez faire, often blase, attitude toward inflation and currency stability, a trait that could constitute a handicap in the markets. He is also famous for having mentioned, in private, that the US could “print its way out of recessions”. This reliance on money creation is not comforting, as it will have its impact on the perceived value of the dollar, but Bernanke will most likely face a straight jacket from the massive twin deficits and the slowing consumer spending, and most certainly will reap the headache from the years of excess nurtured by the Greenspan Fed.