Alan Greenspan – Legacy of Mr. Bubbles

(10 am. – promoted by ek hornbeck)

Peter Goodman of The New York Times examined the role of Alan Greenspan in the financial collapse in The Reckoning: Taking Hard New Look at a Greenspan Legacy.

The article has been sitting open in my web browser now for almost two weeks wondering when I was going to write about it. Since I’ve not see this article covered, I want to make sure it doesn’t go unnoticed. Unfortunately, I do not find Greenspan very inspiring, so the best I can do at this time is a Lazy Quote Diary™. It begins with a quote from Greenspan.

“Not only have individual financial institutions become less vulnerable to shocks from underlying risk factors, but also the financial system as a whole has become more resilient.” – Alan Greenspan in 2004

Then goes on to observe:

For more than a decade, the former Federal Reserve Chairman Alan Greenspan has fiercely objected whenever derivatives have come under scrutiny in Congress or on Wall Street. “What we have found over the years in the marketplace is that derivatives have been an extraordinarily useful vehicle to transfer risk from those who shouldn’t be taking it to those who are willing to and are capable of doing so,” Mr. Greenspan told the Senate Banking Committee in 2003. “We think it would be a mistake” to more deeply regulate the contracts, he added.

But despite the collapse of the financial sector, Greenspan’s “faith in derivatives remains unshaken.” In a way reflective of how conservatism can never fail, only people can fail the conservative ideal. Greenspan believes the problems is not derivative contracts, but greed. The sellers were unreliable and lacked integrity, Greenspan has argued.

Not so fast there Greenspan. Without regulation, how can you insure the integrity of the system? The very deregulation that he pushed helped create the problem.

“Clearly, derivatives are a centerpiece of the crisis, and he was the leading proponent of the deregulation of derivatives,” said Frank Partnoy, a law professor at the University of San Diego and an expert on financial regulation.

The derivatives market is $531 trillion, up from $106 trillion in 2002 and a relative pittance just two decades ago. Theoretically intended to limit risk and ward off financial problems, the contracts instead have stoked uncertainty and actually spread risk amid doubts about how companies value them.

If Mr. Greenspan had acted differently during his tenure as Federal Reserve chairman from 1987 to 2006, many economists say, the current crisis might have been averted or muted.

Greenspan created the housing market bubble with cheap credit from the Federal Reserve’s low interest rates. Even as housing prices increased at unrealistic rates, under Greenspan’s leadership the Fed did not raise interest rates. Nor did Greenspan attempt to control institutions that made loans indiscriminately.

Whether it is because Greenspan is misguided or naive, his personal failures that have contributed to the collapse are glaring. For some reason, Greenspan thinks integrity will trump greed.

In his Georgetown speech, he entertained no talk of regulation, describing the financial turmoil as the failure of Wall Street to behave honorably.

“In a market system based on trust, reputation has a significant economic value,” Mr. Greenspan told the audience. “I am therefore distressed at how far we have let concerns for reputation slip in recent years.”

Honor on Wall Street? Is Greenspan really that naive?

Greenspan took over the chairmanship of the Federal Reserve in 1987. Roughly contemporary to such Wall Street figures as Ivan Boesky, Michael Milken, and Dennis Levine all serving time for less than honorable dealings. 1987, the same year Oliver Stone’s movie, Wall Street, was released. “Greed, for lack of a better word, is good,” was the advice of the unscrupulous corporate raider Gordon Gekko.

A professed libertarian, he counted among his formative influences the novelist Ayn Rand, who portrayed collective power as an evil force set against the enlightened self-interest of individuals. In turn, he showed a resolute faith that those participating in financial markets would act responsibly.

An examination of more than two decades of Mr. Greenspan’s record on financial regulation and derivatives in particular reveals the degree to which he tethered the health of the nation’s economy to that faith.

Greenspan’s use of a libertarian novels as a guide for financial policy is no better than using wishful thinking to get through school. He seems obsessed with libertarian ideology regardless of the dangers to the well being of the economy.

“Proposals to bring even minimalist regulation were basically rebuffed by Greenspan and various people in the Treasury,” recalled Alan S. Blinder, a former Federal Reserve board member and an economist at Princeton University. “I think of him as consistently cheerleading on derivatives.”

Arthur Levitt Jr., a former chairman of the Securities and Exchange Commission, says Mr. Greenspan opposes regulating derivatives because of a fundamental disdain for government.

The financial collapse is because of one rich man’s contempt for government and its regulation and oversight. In at least the United States, democracy with its shortcomings, were subverted by the ideology of one man who held it in disdain and the inability of the people to elect competent representatives to hold Greenspan in check.

“I always felt that the titans of our legislature didn’t want to reveal their own inability to understand some of the concepts that Mr. Greenspan was setting forth,” Mr. Levitt said. “I don’t recall anyone ever saying, ‘What do you mean by that, Alan?’ “

Congress did not want say to the “Oracle” that he had no clothes. It was ideology that markets were better than regulation that was a contributing cause. In 1994, Greenspan said:

Risks in financial markets, including derivatives markets, are being regulated by private parties,” he said.

“There is nothing involved in federal regulation per se which makes it superior to market regulation.”

Mr. Greenspan warned that derivatives could amplify crises because they tied together the fortunes of many seemingly independent institutions. “The very efficiency that is involved here means that if a crisis were to occur, that that crisis is transmitted at a far faster pace and with some greater virulence,” he said.

But he called that possibility “extremely remote,” adding that “risk is part of life.”

Responding to that risk, in 1992 Rep. Edward Markley, a Massachusetts Democrat, “introduced a bill requiring greater derivatives regulation. It never passed.” Greenspan actively thwarted attempts to regulate derivatives through out the rest of the 1990s. When the Commodity Futures Trading Commission attempted to regulate them, Greenspan and Robert Rubin, Bill Clinton’s treasury secretary, “recommended that Congress permanently strip the C.F.T.C. of regulatory authority over derivatives.”

“You will go down as the greatest chairman in the history of the Federal Reserve Bank,” declared Senator Phil Gramm, the Texas Republican who was chairman of the Senate Banking Committee when Mr. Greenspan appeared there in February 1999.

In 2000, the Republican controlled House voted overwhelmingly to keep  derivatives from being regulated by the C.F.T.C. “Senator Gramm attached a rider limiting the C.F.T.C.’s authority to an 11,000-page appropriations bill. The Senate passed it. President Clinton signed it into law.”

Even though derivatives escaped being regulated, “savvy investors like Mr. Buffett continued to raise alarms about derivatives”. But, Greenspan dismissed the threat posed by them and the housing bubble he created.

To this day, Greenspan believes that the collapse was inevitable and no about of regulation or oversight could have prevented it. In his 2007 memoir, he wrote: “Governments and central banks could not have altered the course of the boom.” Perhaps, but the chairman of the Federal Reserve could have done so.

 

^{Cross-posted from European Tribune.}