http://online.wsj.com/article/SB120760341392296107.html?mod=hpp_us_whats_news
His Legacy Tarnished, Greenspan Goes on Defensive
Future of U.S. Financial Reform Is at Stake; 'I Am Right'
By GREG IP
April 8, 2008; Page A1
WA****NGTON -- Alan Greenspan's reputation is under siege, and he's
incredulous.
Hailed three years ago as "the greatest central banker who ever lived,"
the
retired chairman of the Federal Reserve now is being criticized for his
management of the U.S. economy before he retired in 2006. The Fed's low
rates and laissez-faire regulatory oversight during his final years are
widely blamed for sowing the seeds of today's financial crisis -- one that
began in the U.S. housing market and is now battering banks, stock
markets,
borrowers and consumers around the world.
For much of his 18 years atop the world's most-influential economic
institution, Mr. Greenspan was lionized for the economy's performance.
Now,
he notes, he's being second-guessed for it.
"I was praised for things I didn't do," Mr. Greenspan said during one of
three interviews at his sun-drenched office in downtown Wa****ngton, D.C.
"I
am now being blamed for things that I didn't do."
Now 82 years old, Mr. Greenspan wants to set the record straight before
the
ink dries on the first draft of the financial crisis' history. The former
Fed chief doesn't deny that he cares about his reputation. But the larger
issue at stake, he says, is getting the lessons of the crisis right.
"The [wrong] evaluation of this period -- and how to avoid the problems
associated with it -- will give you the wrong answers and the wrong
policies," he says.
The scrutiny of Mr. Greenspan's record has taken on urgency now that the
Bush administration and congressional Democrats are skirmi****ng over how
to
overhaul U.S. financial regulation. If Mr. Greenspan's critics prevail,
then
financial companies will likely face tighter oversight and less freedom in
the products they offer. If Mr. Greenspan's views carry the day, the trend
toward self-policing will continue. A repudiation of Mr. Greenspan's
monetary policies could tempt the Fed to raise interest rates relatively
quickly after the current crisis p*****, and even attempt to deflate
future
bubbles with higher interest rates.
Mr. Greenspan says he doesn't regret a single decision. In his view, many
critics are ignoring evidence in his favor and failing to *****s the
process
by which he made decisions. To prove his point, he draws on texts of old
speeches and news clippings and even a letter, written by a now-deceased
colleague, downplaying a policy disagreement the two once had.
His tone modulates between earnest, bemused and dismayed. No stranger to
controversy, he easily brushes off the comments of longtime antagonists.
He
chuckles at political cartoons, such as one likening his recent memoir,
"The
Age of Turbulence," to O.J. Simpson's "If I Did It."
'Where's the Evidence?'
The criticisms that get under his skin are those from friends and former
colleagues, many of them respected economists who backed his policies at
the
time but now say, in hindsight, that the calls were wrong. "I do take it
seriously if my peers think I have misstated the facts," he says. "But
where's the evidence? Too many people make accusations by assertion. I
think
it's improper."
Mr. Greenspan still has many admirers. His memoir has sold about a million
copies. He collects six-figure fees to answer questions for audiences,
typically assemblies of financial professionals. He has signed consulting
contracts with three firms, including Germany's biggest bank, Deutsche
Bank
AG; the world's biggest bond-fund manager, Pacific Investment Management
Co.; and Paulson & Co., a hedge fund that made billions betting against
housing. Sen. Hillary Clinton recently called for his inclusion on a panel
to advise on the foreclosure crisis.
The prevailing view among critics faults Mr. Greenspan on two main counts.
First, they say, his Fed lowered rates too much from 2001 to 2003 to
cu****on
the economy from the bursting dotcom bubble. Then it took too long to
raise
them again. Low rates fueled mortgage borrowing, driving home prices to
unsustainable heights.
Second, they say, the Fed was lax in its regulatory role. The central bank
failed to press for stiffer rules for underwriting mortgages to people who
ultimately couldn't afford them, they say. Also, they say, the Fed failed
to
anticipate banks' exposure to risky home buyers, leaving them with too
little capital to absorb the eventual losses on those mortgages.
At the time, Mr. Greenspan expected his policy to boost housing because
the
rest of the economy was relatively unresponsive to lower interest rates.
Based on decades of his own research, he believed a buoyant housing market
would spur consumers to borrow against home values and spend more. This
would not produce a housing bubble, he predicted, because it was difficult
to speculate in homes and the memory of the 2000 tech-stock bust remained
fresh.
Mr. Greenspan now admits he was wrong about the improbability of a housing
bubble. Yet he has long maintained that bubbles are an unavoidable feature
of a dynamic economy. He pulls out a 1999 speech and shows, underlined in
green marker, passages in which he warned of recurring but unpredictable
patterns of overconfidence followed by investor panic. He does not share
some foreign central bankers' belief that their job is to defend against
excessive asset-price inflation: No sensible policy, he maintains, could
have prevented the housing bubble.
"I am reasonably certain that I am right here," Mr. Greenspan says. If
proved wrong, he says, "I will change. I do not have a vested interest in
holding wrong ideas."
Dour Inflation Fighter
Mr. Greenspan was born in New York in 1926. An acolyte from an early age
of
the libertarian philosopher Ayn Rand, he was convinced that private
self-interest regulates markets and businesses better than government can.
He ran an economic-consulting firm and served as an economic adviser to
Presidents Gerald Ford and Ronald Reagan. In 1987, President Reagan
appointed him chairman of the Federal Reserve.
Mr. Greenspan's first years were rocky. He was credited with swiftly
responding to the 1987 stock-market crash. But his slowness to lower rates
in the early 1990s led to frequent clashes with President George H.W.
Bush.
He was seen as a dour inflation fighter quick to snuff out strong economic
growth.
But in the 1990s, economic expansion lengthened and the U.S. successfully
negotiated several financial crises. Admiration for Mr. Greenspan grew.
Some
accused him of being a cheerleader for the stock-market boom of the late
1990s. But his aggressive interest-rate cuts in response to the bursting
bubble, and the mildness of the recession in 2001, restored his luster.
The unlikely popularity of this central banker -- known for inscrutable
comments and idiosyncratic syntax -- became the stuff of satire. When the
journalist Stephen Glass, later discredited for fabricating stories, spun
a
tale about an investment firm that had erected a shrine to Mr. Greenspan,
it
seemed plausible. The Onion, a satirical Web site, wrote of him in 2001:
"Several thousand excited young Japanese fans mobbed and tipped over his
tour bus after a speech."
When Mr. Greenspan left the Fed in January 2006, the economy was strong,
inflation was low and prices of stocks and houses were buoyant.
But seeds of crisis began to germinate a few months later. Home prices
stopped rising. House construction turned down. Delinquencies mounted on
subprime mortgages, home loans made to borrowers who didn't qualify for,
or
weren't offered, regular mortgages. That triggered the collapse of several
mortgage lenders and hedge funds.
In August 2007, the troubles spread to banks in Europe and the U.S. In
September, Mr. Greenspan released his memoir. As discussion of the book
saturated newspapers and television, his successor, Ben Bernanke,
delivered
the first of six interest-rate cuts to date aimed at countering the
crisis.
Opinions of Mr. Greenspan trended down with the economy. Last month, Sen.
Chris Dodd -- a Connecticut Democrat who in 2005 said Mr. Greenspan
commanded "tremendous respect" in the Senate -- laid the blame at his
feet.
Mr. Dodd, chairman of the Senate Banking Committee, charged that Mr.
Greenspan's policies have left "millions and millions of American
consumers"
facing foreclosure.
Anti-Greenspan sentiment has cropped up on blogs such as The Mess That
Greenspan Made and Greenspan's Body Count, the latter a tally of deaths
pur****tedly linked to the real-estate bust. Hedge-fund manager William
Fleckenstein's book "Greenspan's Bubbles: The Age of Ignorance at the
Federal Reserve," released in January, is now in its fourth printing.
Mr. Greenspan says many of the criticisms against him are unjust. He is
particularly perturbed by attacks over a 2004 speech in which he suggested
that more borrowers would benefit from adjustable-rate mortgages. Interest
rates were at a historical low at the time, which means that those who
held
on to the mortgages would have seen rates adjusted upward.
Mr. Greenspan says the speech merely pointed out that many people who get
a
30-year mortgage move or refinance long before it matures. Eight days
after
giving the speech, he says, he clarified his comments to say he didn't
mean
to disparage 30-year fixed-rate mortgages. "I find it profoundly
disturbing"
that critics cite the recommendation and not the retraction, he says,
tapping his fingers on the table in front of him. "In all seriousness,
this
is really quite unfair."
Analyzing the Crisis
He has also thrown himself into analyzing the current crisis, immersing
himself in economic data as he did at the Fed -- though now without 200
Ph.D. economists to assist him. The questions his clients currently ask go
to the heart of his own legacy: What drove the housing and mortgage
bubbles?
How far will they deflate? What will happen to the economy?
Unable to find out how many homes are bought with subprime mortgages, Mr.
Greenspan spent several months designing his own data system. Some of what
he has learned is going into a new chapter for the paperback edition of
his
book, to be released Aug. 26. It will explain events after last June, when
he finished writing the original.
The biggest question mark over Mr. Greenspan's record is his decision to
slash interest rates to 1% in 2003 and wait to raise them until 2004, and
then only slowly. In this debate, Mr. Greenspan and his critics seem to
speak different languages.
Critics talk about the events that followed -- an overheated housing
market
and a rapid buildup of debt on Main Street and Wall Street, much of which
is
now painfully unwinding. Such critics are now in the majority: In a recent
Wall Street Journal survey of 55 economists, 84% said the Fed was too slow
to raise rates. Two members of the policy-making Federal Open Market
Committee at the time -- William Poole and Robert Parry, presidents of the
Federal Reserve Banks of St. Louis and San Francisco -- have both recently
argued that, in hindsight, rates were too low for too long.
Mr. Greenspan focuses not on events that followed the policy but on the
thinking behind it. "I don't remember a case when the process by which the
decision making at the Federal Reserve failed," he says.
He says rock-bottom interest rates actually went against his "19th
century"
aversion to easy money. "My inner soul didn't feel comfortable," he says.
He
justified the policy by noting that at the time, inflation was falling
persistently and the risk of deflation -- though small -- seemed real,
despite his prior assumptions that it was impossible with a dollar
unlinked
to gold.
To prevent deflation, the Fed spurred growth by keeping interest rates
low.
At the time, he notes, the only dissenting votes on the Fed policy
committee
were those who wanted to set rates even lower. The Fed, he said, initially
raised rates gradually to give businesses and investors time to prepare.
In
2004 and 2005, it raised rates faster than private economists expected.
That judgment is now being questioned by Mr. Greenspan's peers, including
Stanford University economist John Taylor. The Treasury Department's top
international hand from 2001 to 2005, Mr. Taylor is famous in academic
circles for his Taylor Rule, a formula the Fed and other central banks use
as a guide to setting interest rates.
At a 2005 Fed conference in Jackson Hole, Wyo., where the world's monetary
elite gather each year, Mr. Taylor agreed with a study presented there by
two Princeton economists who concluded that Mr. Greenspan was history's
greatest central banker. Mr. Taylor credited Mr. Greenspan for the
nation's
"extraordinary economic performance," praising in part his "timely" rate
cuts in 2001 to 2003 and, later, his "well telegraphed" rate hikes.
Mr. Taylor struck a different note last August. Speaking at the same
Jackson
Hole event, Mr. Taylor used his own model to argue that rates were kept
too
low for too long, overheating housing prices and setting the stage for a
bust. He repeated the charge before Congress in February.
The critique is painful for Mr. Greenspan. The men have been friends since
the mid-1970s, when Mr. Greenspan was chairman of President Ford's Council
of Economic Advisers and Mr. Taylor was on staff. Mr. Greenspan later
hired
Mr. Taylor to work with his consulting firm, Townsend-Greenspan & Co.
Vintage Greenspan
Earlier this year, Mr. Greenspan invited Mr. Taylor to lunch at his office
and challenged his former protégé's *****sment. In Mr. Greenspan's view,
if
the Fed's policies were to blame, the housing bubble would have been
mostly
limited to the U.S. Yet, he argued, many other countries had housing
bubbles, too. A better culprit, he suggested, was the glut of savings
globally. Savers were competing to make loans, keeping long-term interest
rates low in many countries and fueling housing demand.
Mr. Taylor countered that there was no savings glut, citing data that
showed
world savings equaled world investment. Mr. Greenspan called Mr. Taylor's
data "irrelevant." Interest rates are affected by intended investment
rather
than actual investment, Mr. Greenspan argued, adding that intentions are
hard to measure.
The discussion, if arcane, was vintage Greenspan. The former Fed chief has
long differed from conventional economists in his disdain of models and
his
readiness to second-guess economic data. While that has given him insights
that escape his peers, it has also created chasms in the ways he and they
see the world.
Mr. Taylor says he stands by his 2005 praise of Mr. Greenspan's tenure as
a
whole. "Monday-morning quarterbacking" of a few episodes, he says,
"shouldn't change the overall *****sment."
Mr. Greenspan's regulatory record has also come under review. The Federal
Reserve is charged with supervising banks and enforcing and interpreting
consumer-protection laws such as the Home Owner****p and Equity Protection
Act. Today, Mr. Greenspan's hands-off oversight is routinely cited for lax
lending standards that steered many borrowers toward mortgages they
ultimately couldn't afford.
Mr. Greenspan says that on regulatory issues, he deferred to the Fed's
staff
or to the Fed governor in charge of consumer matters. Former Fed officials
concur but some add that senior staff reflected Mr. Greenspan's distrust
of
regulation. Without a prod from its chairman, they say, the Fed was often
slow to expand consumer protection.
Mr. Greenspan scorns the notion that he intimidated others into falling in
line. "What I find amusing is that history is being rewritten with me
being
****trayed as a force that overwhelms and persuades all these highly
educated, very intelligent people to do my bidding," he says. "That's just
silliness. It's a terrible rewrite of history."
The Fed took several steps to tighten oversight of subprime lending, but
until last year, none were aimed at the type of adjustable-rate subprime
mortgages whose phenomenal growth in 2005-06 is at the root of the current
crisis. Mr. Greenspan notes the Fed lacked good data on those mortgages.
Fed Seal of Approval
On at least one occasion, Mr. Greenspan did resist colleagues who urged
further oversight. In 2000, then-Fed governor Edward Gramlich, who was in
charge of the Fed's consumer affairs, proposed to Mr. Greenspan that the
Fed's staff examiners look for abusive lending practices in banks' lightly
regulated mortgage affiliates.
In an interview with The Wall Street Journal last June, three months
before
his death, Mr. Gramlich said that at the time, he generally considered
subprime loans a good thing. He didn't then know the extent to which the
loans would become a problem, but he wanted the "Fed to be a leader" in
cracking down on predatory lending.
Mr. Greenspan recalls that he demurred, saying that the Fed shouldn't have
oversight of these lenders. Shady operations could ****tray their
Fed-regulated status as a seal of approval, he suggested, giving them
unearned credibility with customers.
Since the interview with Mr. Gramlich was published, it has been cited
repeatedly as evidence of Mr. Greenspan's neglect. Asked about it, Mr.
Greenspan draws a piece of paper from his desk. It is a letter in Mr.
Gramlich's shaky handwriting, written a few days before his death last
September.
"You were a magnificent central banker and a great leader," Mr. Gramlich
wrote. "I truly wish the press would stop kicking you around on this
subprime supervision issue. What happened was a small incident."
Write to Greg Ip at greg.ip@[EMAIL PROTECTED]
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