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Asset price bubbles and Central Bank Policy

This page is about Alan Greenspan - for Janet Yellen click here - for Ben Bernanke click here

FDR’s attempts to revive the economy are viewed as a failure in light of the devastating second depression that occurred in 1937-38.
Instead, the Great Depression finally ended with the explosive growth of military expenditures starting in mid-1940.
Capitalism in America: A History, by Alan Greenspan and Adrian Wooldridge
FT 16 October 2018

"Those of us who have looked to the self-interest of lending institutions to protect shareholder's equity (myself especially)
are in a state of shocked disbelief,"
said Greenspan in October 2008

“So far we are seeing, at worst, an orderly decline in the housing market,” he said.
Tim Iacono, 13 January 2012

Man Who Says "Bubbles Only Identified When They Burst" Detects Bubbles
Alan Greenspan says there are "Bubbles in Stocks and Bonds".
Mike "Mish" Shedlock, 2 February 2018

"There are two bubbles: We have a stock market bubble, and we have a bond market bubble," the former Federal Reserve chairman told Bloomberg TV on Wednesday.

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The Keynesian Fed economists who were dismissive of Reagan’s trickle-down theory
still don’t appear to see the irony in the fact that they applied trickle-down monetary policy
in the hope that by giving a boost to asset prices they would create wealth that would trickle down to the bottom 50% of the US population or to Main Street.
It didn’t.
John Mauldin 17 November 2017

I understand that we were caught up in an unprecedented crisis back then, and I actually think QE1 was a reasonable and rational response;
but QEs 2 and 3 were simply the Fed trying to manipulate the market.

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We’re in bubble territory again, but this time might be different
Martin Wolf, FT 10 November 2017

With real interest rates on safe securities so low, asset prices should be high. That is basic economics.
Maybe, they should not be as high as they now are. But it is far from obvious they are in extreme bubble territory.
The biggest exception, even given current low real interest rates, may well be US stocks.

So the question is whether current conditions — low real interest rates and low and stable inflation — will last.

A final perspective is to insist, nevertheless, that ultra-low real interest rates will have to rise, in the end, even if not right away.
That may be true. But nobody knows when. Rates may be not far from present levels for decades.

The question rather is whether asset prices can adjust without bringing down either financial system or economy.

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House Prices

The Stock Market

The Great Recession

The Bond Market

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The cult of inflation targeting began in New Zealand in the late Eighties.
In the wrong circumstances such a doctrine is a formula for asset bubbles and deranged financial cycles,
and that is precisely what events have conspired to produce.

Ambrose 1 November 2017

The logic of constructing an entire financial order around one arbitrary variable such as inflation was never compelling.
This technocrat urge to fine-tune prices is a radical departure from their historic role of central banks:
to ensure financial stability and act as a lender-of-last resort in a crisis.

Japan saw a variant in the Eighties.
The BoJ’s governor Yasushi Mieno confessed later that the bank’s great mistake was to suppose that it was safe to let rip with monetary stimulus since inflation was tumbling. The result was the Nikkei Bubble.
Mr Mieno later warned his global colleagues that the most dangerous asset booms can only occur when inflation is low. Nobody listened.

The BIS suggests that they may actually have caused the great monetary conundrum of our age:
a relentless drop in the Wicksellian "natural rate of interest".

Almost nine years into our global expansion yields on ten-year US Treasuries – the global price of money – are still just 2.36pc.

German Bunds are trading at yields below zero all the way out to 2024.

Read more here

Unconventional policies are turning out to be a classic game-theoretic bad equilibrium:
each central bank stands to gain by keeping interest rates low, but, collectively, their approach constitutes a trap.
Kaushik Basu, Project Syndicate 18 October 2017

In recent years, the world’s major central banks have pursued unprecedentedly easy monetary policies, including what a recent Deutsche Bank report calls “multi-century all-time lows in interest rates.”
That, together with large-scale quantitative easing, has injected a massive $32 trillion into the global economy over the last nine years.

Persistently low interest rates can cause people to worry about their retirement funds, spurring them to save more. Far from boosting consumption, as intended, monetary stimulus may create an environment that dampens demand, weakening prospects for economic growth.

Today, no single country can steer the world away from this trap.

Kaushik Basu, former Chief Economist of the World Bank, is Professor of Economics at Cornell University and Nonresident Senior Fellow at the Brookings Institution.

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ZIRP at my blog

Do Central Bankers Know A Bubble When They See One?
From its March 2000 peak to its October 2002 bottom the NASDAQ declined 80%.
In August 2002 Greenspan gave a speech at the Fed’s conference in Jackson Hole.
Ben Bernanke, gave a speech titled, “The Great Moderation.”
zerohedge 3 January 2017

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The Stock Market

The Great Moderation

Financial Crisis

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What causes asset bubbles?
Most econ models are still based on rational expectations,
the idea that people don’t systematically make errors when forecasting the future.
This idea was advanced by many star economists of the 1970s and '80s,
including the highly influential macroeconomist Robert Lucas.
Noah Smith, Bloomberg 8 December 2016

By reducing the incomes of retirees and terrifying near-retirees,
the Fed successfully reduced economic activity.
John Mauldin 9 October 2016

Monetary policy in a low-rate world
Martin Wolf, FT 13 Sepptember 2016

Monetary policy is not exhausted, and active use of it is essential.
But undue reliance on monetary policy is problematic.
Martin Wolf, FT 25 May 2016

At the height of the last property bubble in 2005, Alan Greenspan, then chairman of the Federal Reserve,
said society could not long tolerate a situation where most people we were suffering from declining standards of living.
Edward Luce, FT March 13, 2016

Faced with the most severe economic downturn since the Great Depression, the U.S. Federal Reserve did the only thing it could: flood the financial system with liquidity.

The move to so-called easy money arguably saved the world from a worse fate and radically changed the economic backdrop as well as the landscape for financial markets.

Bloomberg via

Caruana and Greenspan about stocks and shocks
Rolf Englund blog 6 Febr 2016

Martin Wolf:
What might central banks do if the next recession hit while interest rates were still far below pre-2008 levels?
FT February 2016

Today Will Be a Watershed Moment for Financial Markets
We are in uncharted waters after nearly 20 years of madcap money printing by the Fed and other central banks.
Everything has been wildly inflated — stocks, bonds, real estate — and also the entire real economy as measured by global GDP.
That includes trade volumes, capital spending, commodity prices, energy and mining capacity, manufacturing investment, bulk carriers and containerships.
Also, warehouse and distribution facilities, brick and mortar retail space and much, much more.
David Stockman • December 15, 2015

The world’s central banks are finally out of dry powder.
They no longer have the means to inflate the global credit and financial bubble.

That’s why I’m calling today’s FOMC meeting the most crucial inflection point since 1929.
We have reached the apogee of history’s greatest credit inflation. Now we’re hurtling into a prolonged worldwide deflation.

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Financial Crisis

The argument for an interest-rate rise now is not a compelling one
Just because it seems inevitable does not mean it is a good idea.
FT editorial December 15, 2015

I många år har debatten på området handlat om centralbankernas beteende:
bör de försöka hålla tillbaka bubblor och dämpa marknadskurser som äventyrar den finansiella stabiliteten,
eller bara städa upp när bubblorna har brustit?
Barry Eichengreen, DN 2015-08-14

Centralbankscheferna kan visserligen inte veta säkert när kurserna har nått ohållbara höjder.
Men de kan inte heller veta säkert när inflationen ska ta fart. Penningpolitik är en konst, inte en vetenskap: konsten att gissa rätt.
Och som krisen 2008–09 visade är det mycket dyrt och ineffektivt att bara städa upp efter bubblorna.

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Barry Eichengreen: French and German banks have been able to sell their holdings of Greek government bonds,
largely to the ECB, which has acted as bond purchaser of last resort.

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One of the things that occurred to me is the consequence of the 2008 crisis.
I knew something was brewing, but I missed the actual date as frankly did everybody else.
Alan Greenspan, Telegraph 10 August 2015

Lord Skidelsky said that Keynes would have found two things upsetting.
First, he would be frustrated with the lack of precautions taken to prevent a huge financial crash like the one we saw in 2008.
Secondly, Lord Skidelsky believes Keynes wouldn't be happy with the policy measures taken after the crash. Keynes would have wanted a more "buoyant response," he said.
Specifically, he doesn't think Keynes would have liked the Federal Reserve's quantitative easing
BloombergTV, 13 August 2015

The lesson from Asia and Latin America in the 1990s was that currency pegs reinforced and indeed exacerbated financial cycles.
Asset prices tended to overshoot on the upside, creating macro imbalances that were eventually corrected through catastrophic devaluations.
FT 13 August 2015

Federal Reserve is headed down a familiar – and highly dangerous – path.
Steeped in denial of its past mistakes, the Fed is pursuing the same incremental approach
that helped set the stage for the financial crisis of 2008-2009.

The consequences could be similarly catastrophic.
Stephen S. Roach, Project Syndicate,23 December 2014

This bears an eerie resemblance to the script of 2004-2006, when the Fed’s incremental approach led to the near-fatal mistake of condoning mounting excesses in financial markets and the real economy. After pushing the federal funds rate to a 45-year low of 1% following the collapse of the equity bubble of the early 2000s, the Fed delayed policy normalization for an inordinately long period. And when it finally began to raise the benchmark rate, it did so excruciatingly slowly.

In the 24 months from June 2004, the FOMC raised the federal funds rate from 1% to 5.25% in 17 increments of 25 basis points each. Meanwhile, housing and credit bubbles were rapidly expanding, fueling excessive household consumption, a sharp drop in personal savings, and a record current-account deficit – imbalances that set the stage for the meltdown that was soon to follow.

Central banking has lost its way. Trapped in a post-crisis quagmire of zero interest rates and swollen balance sheets, the world’s major central banks do not have an effective strategy for regaining control over financial markets or the real economies that they are supposed to manage. Policy levers – both benchmark interest rates and central banks’ balance sheets – remain at their emergency settings, even though the emergency ended long ago.

Stephen S. Roach, former Chairman of Morgan Stanley Asia is the author of the new book Unbalanced: The Codependency of America and China.

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The Fed put
Federal Reserve uttered the single word “patience” and everything changed.
On Wednesday the stock market rose 2 per cent and on Thursday the Dow Jones Industrial index had its best day in three years.
The market dependence on Fed policy has never seemed greater
Financial Times December 19, 2014

Greenspan, 88:
How to unwind the huge increase in the size of its balance sheet with minimal impact.
It is not going to be easy, and it is not obvious exactly how to do it.
Interview with Alan Greenspan, MarketWatch 24 July 2014

Conventional wisdom has it natural interest rates have fallen
With debt in the developed world standing at higher levels than before the financial crisis,
one of the more disturbing threats to financial stability is an unexpectedly sharp rise in global interest rates.

John Plender, Financial Times June 24, 2014

Fed’s easy money has disconnected markets from the real economy
Junk bond spreads near all-time lows and stocks at record highs
Is it time to sound the alarm over levels in the credit or equity markets?
Henny Sender, Financial Times 6 June 2014

Only the ignorant live in fear of hyperinflation
Failure to understand the monetary system has made it more difficult for central banks to act
Martin Wolf, FT April 10, 2014

Volcker startade sedelpressarna, inte Greenspan
Rolf Englund blog 2014-04-08

The Bank of England will never unwind QE, nor should it
Governor Mark Carney more or less acknowledged this morning that the Bank of England will never reverse its £375bn of Gilts purchases.
Quite right too.
Ambrose Evans-Pritchard, 11 March 2014

How to make a graceful exit
Central banks’ forward guidance is a forgivable sin
Financial Times editorial, March 10, 2014

Centralbanker skall INTE vara förutsägbara. Basel-banken stöder Englund.
Rolf Englund blog 10 mars 2014

Centralbanker skall INTE vara förutsägbara
Det är inte bra att aktörerna känner sig säkra. Det gör dem bara med oförsiktiga.
Rolf Englund blog 2014-02-13

Greenspan - The Map and the Territory: Risk, Human Nature, and the Future of Forecasting
Why is it called The Map and the Territory ? I could not find reference to map or territory in it.
And I was looking for such references, because more than two years ago I wrote an essay on the state of economics called “The Map is not the Territory”.
Mr Greenspan did not refer to that essay. Nor, more strikingly, did he refer to another book published the previous year with exactly Mr Greenspan’s own title.
John Kay, FT 11 March 2014

The phrase “the map is not the territory” was coined in the 1920s by Alfred Korzybski, the Polish philosopher.
The essence of Korzybski’s thought is that we interpret the world through abstractions, abstractions that should not be confused with “the world as it really is”.
There are many different possible maps of the same territory, each useful for specific purposes

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The Map and the Territory: Risk, Human Nature, and the Future of Forecasting, at Amazon

Greenspan, the Keynesian Justin Fox at the Harvard Business Review has collated some interesting extracts from a conversation he had with Alan Greenspan late last year.
Greenspan (generally pigeon-holed as a free-market loving Ayn Randian type) is getting pretty Keynesian nowadays.
Indeed, having understood that the 2008 crisis revealed a “flaw” in his world view, rather than getting bitter about it, Greenspan appears to have spent the last few years trying to understand where he went wrong.
Izabella Kaminska, FT Alphaville, Jan 9, 2014

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Izabella Kaminska at IntCom

What Alan Greenspan Has Learned Since 2008
Justin Fox, January 7, 2014

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Eight ways conventional financial wisdom has changed post crisis
Nobody assumes subprime mortgage bonds are safe, for example, or blithely trusts triple-A credit ratings.
Nor do they presume that big banks cannot collapse, or that western central banks cannot keep rates at zero.
Gillian Tett, Financial Times December 26, 2013

The Hubble bubble theory of the continuous expansion of the financial universe
All of which is a whimsical way of suggesting that perhaps Larry Summers has a point.
Perhaps inflating asset bubbles one after the other isn’t such a bad idea. Perhaps it’s even necessary?
Izabella Kaminska, FT Alphaville 6 December 2013

The Stock Market's Da Vinci Code
The Plunge Protection Team
Jonathan Moreland, March. 1, 2006

During a speech given on Jan. 14, 1997, at a university in Leuven, Belgium, Greenspan said: “We have the responsibility to prevent major financial market disruptions through development and enforcement of prudent regulatory standards and, if necessary in rare circumstance, through direct intervention in market events.”

The U.S. Executive Order 12631, signed on March 19, 1988, by President Reagan, established the “Working Group on Financial Markets.”

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Working Group on Financial Markets, Wikipedia

More about PPT

Former Fed Chief Greenspan Sees No Bubble in Dow 16,000
Bloomberg, Nov 28, 2013


The day of the speech, the Dow Jones industrial average closed at 6,437.10 points
But how do we know when irrational exuberance has unduly escalated asset values?
Chairman Alan Greenspan, December 5, 1996

Greenspans bok om finanskrisen sågas
”The map and the territory”
Den är tänkt som en analys av vad som gick snett före krisen
men slutar med försvaret att alla missade varningssignalerna.
SvD Näringsliv 22 oktober 2013

Resorting all too freely to the first person plural, Greenspan describes the book as “an effort to understand how we all got it so wrong, and what we can learn from the fact that we did.”
The remarkable thing is that Greenspan continues to get it wrong.
Daniel Akst, Bloomberg, Oct 17, 2013

It’s time to pounce on Alan. That’s Alan as in Greenspan, whose new book — “The Map and the Territory: Risk, Human Nature, and the Future of Forecasting ” — has just appeared. It provides a fresh opportunity for critics to attack the former chairman of the Federal Reserve Board (1987-2006).
Here are some samples.
Robert J. Samuelson, October 28, 2013

"One thing that shocked me is that
not only did the Federal Reserve's very sophisticated model completely miss (the Lehman crash on) September 15th, 2008,
but so did the IMF, so did JP Morgan, which was forecasting American economic growth three days before the crisis hit, going up all through 2009 and 2010."
Alan Greenspan, BBC, 20 October 2013

Click here for these articles

Why all the talk of a bond bubble?
What is a bubble, anyway? Surprisingly, there’s no standard definition.

But I’d define it as a situation in which asset prices appear to be based on implausible or inconsistent views about the future.
Dot-com prices in 1999 ... housing prices in 2006
Is there anything comparable going on in today’s bond market?
Paul Krugman, New York Times 9 May 2013

In the fixed interest sector something irrational is undoubtedly going on
Despite the oft-heard central bankers’ refrain that bubbles are impossible to identify until after they have been pricked,
historical comparisons leave little doubt that this is a bubble

John Plender, FT January 29, 2013

To what extent was the economics profession to blame for the financial crisis?
Misunderstanding Financial Crises: Why We Don’t See Them Coming, by Gary B. Gorton, Oxford University Press
Review by John Plender, FT January 13, 2013

The boom and bust of Mervyn King
It looks like a powerful admission of error on his part. But...
When any of us say "if I knew then what I know now", we are excusing ourselves, rather than apologising.
Robert Peston, BBC Business editor, 3 May 2012

En del bedömare /däribland Lars Jonung/ tror att Greenspan i USA
skulle ha kunnat undvika finanskrisen genom att hålla högre styrränta.

Men kapitalet från Kina hade sannolikt ändå sänkt räntan.
Danne Nordling, 7 september 2011

38 olika förklaringar till krisen
Greenspans politik var nödvändig och tillräcklig för finanskraschen.
Lars Jonung, professor i nationalekonomi vid Lunds universitet och ny ordförande för Finanspolitiska rådet, DN 7 september 2011

Mr Bernanke was appointed by former President George W Bush in 2006, tasked with following the 18-year reign of Mr Greenspan, whom Gordon Brown that year introduced in London as "the man acknowledged to be the world's greatest economic leader of our generation".
BBC 3 December 2009

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After eighteen years as the world’s most powerful central banker, Alan Greenspan has changed the way people think about money, credit,
and most importantly, he has changed the way people view debt.
Debt, a pariah to generations following the Great Depression, has been embraced by recent generations.
Tim Iacono, February 11, 2011

Recent generations, that is, who are now far enough removed from the tragedy of the 1930s that history’s lessons of excess credit and debt have been forgotten.

Debt, always a tempting seductress, has been raised to new levels of respectability under the tutelage of Mr. Greenspan.

Many, emboldened by rising asset prices, have completely lost what had been for centuries a largely uninterrupted natural aversion to borrowing money.

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Många unga, högutbildade medelinkomsttagare i Stockholm är lånemiljonärer.
Fortsätter prisrallyt uppåt kan de fortsätta att använda sina villor och innerstadsbostadsrätter som bankomater för att plocka ut ännu mer pengar och åka till Bahamas på semester eller köpa en teppanyakihäll.
Sofia Nerbrand, Kolumn SvD 17/1 2011

Greenspan: 'I was right 70% of the time'
CNN Money April 7, 2010

Morgan Stanley’s former Asia chief Stephen Roach:
“Alan Greenspan kept the policy rate too low for too long, set us up for credit and property bubbles that led to an enormous crisis, [and] I think Ben Bernanke is just rerunning the Greenspan movie of seven or eight years ago.”
You’ll read much the same thing from Roach on this very first TMTGM post from about five-and-a-half years ago
July 9, 2010, by Tim Iacono

For his comment five years ago click at The Test

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More by Stephen Roach

Fed boss Greenspan says no one saw the crisis coming. Really?
Only in America would it be possible to spawn a financial crisis so devastating that it would collapse the entire world economy.
Jeremy Warner, Daily Telegraph 7 Apr 2010

Only in America could the man responsible for interest rates and banking regulation at the time, Alan Greenspan, incredulously insist, as he has again in testimony to the Financial Crisis Commission, that he had very little to do with it.

And only in America could you imagine the story of a one-eyed neurology intern with undiagnosed Asperger's Syndrome (no not Gordon Brown) who ended up making a fortune by applying the principles of "value investing" to subprime mortgage lending.
Greenspan says no one saw it coming. Well, this man did.

Everyone has heard of Warren Buffett, the modern day master of "value investing", and most will recognise the name of John Paulson, the hedge fund manager who famously made billions riding the credit crunch storm.

But not many will know of Dr Mike Burry, a one time neurologist who according to a new book* by the former bond salesman Michael Lewis, predicted the crisis almost exactly and persuaded Wall Street to create the instrume

The Big Short: Inside the Doomsday Machine, by Michael Lewis

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Mr Greenspan described the new world in 2002:
“The use of a growing array of derivatives and the related application of more sophisticated methods for measuring and managing risk are key factors underpinning the enhanced resilience of our largest financial institutions. As a result, 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 stable.”
John Kay, FT December 28 2009

Mot bakgrund av den kraftigaste recessionen i världsekonomin sedan andra världskriget finns det anledning att se över om den politik som centralbanker bedriver kan utformas för att bättre kunna främja en balanserad ekonomisk utveckling.
Vice riksbankschef Karolina Ekholm 2009-12-04

To put it in monetary policy terms, the Fed is boosting the supply of money to offset the decline in velocity,
which is the amount of turnover in the money stock.
Velocity has been falling like a newspaper stock amid the panic.
For our readers who recall their economic textbooks, Irving Fisher's famous equation is MV=PT.
Wall Street Journal editorial 30/10 2008

Amelia Earhart, the world's most famous female aviator, became the first woman to fly across the Atlantic in 1928. Unfortunately, her Lockheed Electra disappeared over the Pacific
Amelia's story has much in common with Alan Greenspan's latter years at the helm of the Federal Reserve.
The serial bubble-blower appeared to lose his compass and the subsequent hard landing in uncharted territories
Irish Times, July 24, 2009

Greenspan has said that bubbles are difficult if not impossible to identify, a convenient excuse for a man who presided over and nurtured two of the greatest bubbles in US history.

The evidence suggests that the stock market and housing bubbles were not only easy to spot, but difficult to miss even to the untrained eye.

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Amelia Earhart


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As a shell-shocked world tries to fathom how its economic collapse happened, commentators are busily outbidding each other with claims about the exceptional nature of this crisis.
But the most astounding fact is how familiar it look compared to past financial crashes.
The story of the modern capitalist economy is a rhythmic repetition of cycles, syncopated by eerily similar crises.
Financial Times March 9 2009

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Financial crises are all different, but they have one fundamental source
That is the unquenchable capability of human beings when confronted with
long periods of prosperity to presume that it will continue.

Alan Greenspan, BBC 8 September 2009

Speaking a year after the collapse of US investment bank Lehman Brothers, which was followed by a worldwide financial crisis and global recession, Mr Greenspan described the behaviour as "human nature".

He said the current crisis was triggered by the trade in US sub-prime mortgages - home loans given to people with bad credit histories - but he added that any factor could have been the catalyst.

If it were not the problem of these toxic debts "something sooner or later would have emerged", Mr Greenspan said.

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The extraordinary risk-management discipline that developed out of the writings of the University of Chicago’s Harry Markowitz in the 1950s
produced insights that won several Nobel prizes in economics.
It was widely embraced not only by academia but also by
a large majority of financial professionals and global regulators

But in August 2007, the risk-management structure cracked
a potential loss of at least $1,000bn
Alan Greenspan, Financial Times March 26 2009

The extraordinary risk-management discipline that developed out of the writings of the University of Chicago’s Harry Markowitz in the 1950s produced insights that won several Nobel prizes in economics. It was widely embraced not only by academia but also by a large majority of financial professionals and global regulators.

But in August 2007, the risk-management structure cracked. All the sophisticated mathematics and computer wizardry essentially rested on one central premise: that the enlightened self-interest of owners and managers of financial institutions would lead them to maintain a sufficient buffer against insolvency by actively monitoring their firms’ capital and risk positions. For generations, that premise appeared incontestable but, in the summer of 2007, it failed. It is clear that the levels of complexity to which market practitioners, at the height of their euphoria, carried risk-management techniques and risk-product design were too much for even the most sophisticated market players to handle prudently.

Even with the breakdown of self-regulation, the financial system would have held together had the second bulwark against crisis – our regulatory system – functioned effectively. But, under crisis pressure, it too failed

What, in my experience, supervision and examination can do is set and enforce capital and collateral requirements and other rules that are preventative and do not require anticipating an uncertain future.

Free-market capitalism has emerged from the battle of ideas as the most effective means to maximise material wellbeing, but it has also been periodically derailed by asset-price bubbles and rare but devastating economic collapse that engenders widespread misery.

Bubbles seem to require prolonged periods of prosperity, damped inflation and low long-term interest rates.
Euphoria-driven bubbles do not arise in inflation-racked or unsuccessful economies.
I do not recall bubbles emerging in the former Soviet Union.

History also demonstrates that underpriced risk – the hallmark of bubbles – can persist for years.
I feared “irrational exuberance” in 1996, but the dotcom bubble proceeded to inflate for another four years. Similarly, I opined in a federal open market committee meeting in 2002 that “it’s hard to escape the conclusion that ... our extraordinary housing boom ... finan ced by very large increases in mortgage debt, cannot continue indefinitely into the future”.
The housing bubble did continue to inflate into 2006.

Analysis of the US consolidated bank balance sheet suggests
a potential loss of at least $1,000bn out of the more than $12,000bn of US commercial bank assets at original book value.

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Finanskrisen - The Great Recession

Skuldfrågan/ Who is responsible?

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Greenspan: The Fed Didn't Cause the Housing Bubble
Lower rates on long-term, fixed-rate mortgages and
not the Federal Reserve's policies are to blame for the U.S. housing bubble.
CNBC 11 Mar 2009

"Between 2002 and 2005, home mortgage rates led U.S. home price change by 11 months.
This correlation between home prices and mortgage rates was highly significant,
and a far better indicator of rising home prices than the fed-funds rate,"
Greenspan wrote in the Wall Street Journal.

See also

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"The high priest of laisser-faire capitalism"
The US government may have to nationalise some banks on a temporary basis
to fix the financial system and restore the flow of credit

Alan Greenspan, Financial Times February 18 2009

Mr Greenspan , who for decades was regarded as the high priest of laisser-faire capitalism, said nationalisation could be the least bad option left for policymakers.

Temporary government ownership would ”allow the government to transfer toxic assets to a bad bank without the problem of how to price them (kurs här).”

But he cautioned that holders of senior debt – bonds that would be paid off before other claims – might have to be protected even in the event of nationalisation.

”You would have to be very careful about imposing any loss on senior creditors of any bank taken under government control because it could impact the senior debt of all other banks,” he said. “This is a credit crisis and it is essential to preserve an anchor for the financing of the system. That anchor is the senior debt.”

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The fundamental problem with the Paulson scheme is that it is neither a necessary nor an efficient solution.
It is not necessary, because the Federal Reserve is able to manage illiquidity through its many lender-of-last resort operations.
It is not efficient, because it can only deal with insolvency by buying bad assets at far above their true value, thereby guaranteeing big losses for taxpayers and providing an open-ended bail-out to the most irresponsible investors.
Martin Wolf, Financial Times, September 23 2008 19:38

In an echo of the Watergate hearings 35 years ago, Mr. Greenspan was asked
when he knew there was a housing bubble and
when he told the public about it.
He answered that he never anticipated home prices could fall so much.

"I did not forecast a significant decline because we had never had a significant decline in prices," he said.
Wall Street Journal, October 24, 2008

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, I would add one by Luigi Zingales of Chicago University’s graduate school of business.
Why Paulson is Wrong
a short note by Luigi Zingales
A finance expert's review of Paulson's Resolution Trust Corporation (RTC)

Mea Culpa
Greenspan told Congress he is "shocked" at the breakdown in U.S. credit markets and
said he was "partially" wrong to resist regulation of some securities.

CNBC, 23 October 2008

Despite concerns he had in 2005 that risks were being underestimated by investors, "this crisis, however, has turned out to be much broader than anything I could have imagined," Greenspan said to the House of Representatives Committee on Oversight and Government Reform.

"Those of us who have looked to the self-interest of lending institutions to protect shareholder's equity (myself especially) are in a state of shocked disbelief," said Greenspan

He also conceded he was "partially wrong" about his belief that certain derivatives, such as credit default swaps, did not need to be regulated.

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Kommentar av Rolf Englund:
Alltid något. Och när skall Carl Bildt erkänna att han gjorde något misstag under kronkursförsvaret?

“I made a mistake in presuming that the self-interest of organisations, specifically banks and others, was such that they were best capable of protecting their own shareholders,”
I don’t know about you, but when I read such a naïve statement coming from the man who was once the most powerful banker in the world, I’m the one who’s in a state of shock and disbelief.
Ian Wyatt, October 24 2008

As Greenspan himself said yesterday “Those of us who have looked to the self-interest of lending institutions to protect shareholder's equity -- myself especially -- are in a state of shocked disbelief…"

Greenspan is saying he expected the lenders to police themselves. And now he’s “shocked” that they didn’t. You mean Wall Street will put profits and bonuses above the interest of faceless shareholders? No! Say it ain’t so!

the old “Orient Express” conclusion – that everybody, from borrowers, to lenders, to Congressmen, to Greenspan, “did it” – won’t satisfy the need to hang somebody up by their thumbs.

Some people were apparently shocked to learn that gambling was occurring at Rick's Cabaret.
Michael E. Lewitt, Mauldin's Outside The Box 2007-11-05


Man Who Says "Bubbles Only Identified When They Burst" Detects Bubbles
Alan Greenspan says there are "Bubbles in Stocks and Bonds".
Mike "Mish" Shedlock, 2 February 2018

Alan Greenspan's tragic mistake
negative real interest rates from 2002 into 2005
It was a painful spectacle to watch.
Wall Street Journal, editorial, October 24, 2008

The original bubble was in housing prices and mortgage-related assets,
which the Federal Reserve helped to create with its negative real interest rates from 2002 into 2005.

This was Alan Greenspan's tragic mistake, not that the former Fed chief will acknowledge it.

Testifying before Congress yesterday, Mr. Greenspan pinned the crisis on mortgage securitizers, risk modelers and lending institutions, thus contributing to the Washington narrative that government had little to do with it. The Fed's monetary policy apparently gets a pass.

The media and Members of Congress will use Mr. Greenspan's testimony to impugn /oppose or attack as false or lacking integrity/
the very free market principles that the former Ayn Rand protégé has spent his life promoting.

It was a painful spectacle to watch.

Real interest rates

Nyliberalerna tysta så det dånar
Det intellektuella civilkuraget hos den stora kader nyliberala ekonomer, som under årtionden hyllat USA:s ansvarslösa marknadsekonomi, imponerar inte.
Bo Rothstein m fl diskuterar detta

I think the really interesting question to be asked to which extent central banks have contributed to, or even caused, this crisis.
This is not about Mr Greenspan, or a single monetary policy decision at a particular time, or whether US interest rates were raised too late in the last cycle.
This question relates to the longer-term impact of monetary policy during the age of global disinflation,
which started in the early 1990s, and which has just ended.

The ECB, the Fed, and the Credit Crisis, Wolfgang Münchau. 07.11.2007

A lifelong libertarian, Alan Greenspan does not ordinarily advocate giving the government more power.
But he does so in a new epilogue to the paperback edition of his memoir,
parts of which were made available to The Economist.
The Economist print edition Aug 7th 2008

The /banking/ insolvency crisis will come to an end only as home prices in the US begin to stabilise
Home prices will stabilise only when the absorption of the huge excess of single-family vacant homes is much further advanced
Alan Greenspan, Financial Times, August 4 2008

The current financial crisis in the US is likely to be judged in retrospect as the most wrenching since the end of the second world war.
It will end eventually when home prices stabilise and with them the value of equity in homes supporting troubled mortgage securities.
Alan Greenspan, Financial Times, March 17 2008

The contraction phase of credit and business cycles, driven by fear, have historically been far shorter and far more abrupt than the expansion phase, which is driven by a slow but cumulative build-up of euphoria.

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Economists have argued that greater transparency is beneficial....
But greater transparency of central bank policymaking – in which committee deliberations are made more open to the public – may prevent the full and frank discussion needed to make the best decisions.

In a recent paper (Meade and Stasavage 2008), we compare discussions of the Fed’s Federal Open Market Committee (FOMC) before and after committee members knew that all statements would eventually be made public.
Our empirical results indicate that after 1993, when FOMC participants knew that their deliberations would be made public, they were less likely to challenge then Fed chairman Alan Greenspan.
This suggests that greater transparency hindered free deliberation and may have permitted Greenspan's views on interest rates to dominate US policymaking....
Naked Capitalism 26/6 2008

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Why Greenspan does not bear most of the blame
The US is in no way exceptional for the level of residential investment.
Somewhat to my surprise, the share of residential investment in UK gross domestic product has been much the same as in the US.
The outliers here are Ireland and Spain.
Martin Wolf FT April 8 2008

Greenspan’s 2004 speech extolling the virtues of adjustable-rate mortgages looks particularly imprudent now, in the light of rising delinquencies on those loans.

Greenspan: Bostadsbubblan inte Feds fel
Dagens Industri

Act now to stop the markets’ vicious circle
Paul De Grauwe March 19 2008

I am puzzled why the remarkably similar housing bubbles that emerged
in more than two dozen countries between 2001 and 2006 are not seen to have a common cause.

The dramatic fall in real long term interest rates statistically explains, and is the most likely major cause of, real estate capitalization rates that declined and converged across the globe. By 2006, long term interest rates for all developed and major developing economies declined to single digits, I believe for the first time ever.
Alan Greenspan, Financial Times April 6, 2008

Even with full authority to intervene, it is not credible that regulators would have been able to prevent the subprime debacle. It would have required insights that would enable regulators to override the investment judgments of the most experienced analysts of the private sector, the very people on whom regulators rely for their market insights. When investment judgments are distorted by euphoria, even so valuable a financial innovation as securitization will perform poorly.

If counterparty surveillance is abandoned or significantly weakened, we are left with regulation by the less informed.

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Tim Iacono: Good afternoon.
Alan Greenspan: Good afternoon. My assistant tells me you've been writing about me.
Iacono: A little. Let's get right to the point. Are you responsible for the housing bubble?
Greenspan: No.
Iacono: Would you care to elaborate on that?

Tim Iacono 4/10 2007

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Risk of Systemic Crises and Asset Bubbles

Many today are complaining about Alan Greenspan’s monetary stewardship - “serial bubble-blower” is the most polite phrase that I have heard.
But would the world economy really be better off today under an alternative monetary policy that kept unemployment in America at an average rate of 7% rather than 5%?
Would it really be better off today if some $300 billion per year of US demand for the manufactures of Europe, Asia, and Latin America had simply gone missing?
Brad DeLong April 05, 2008

Alan Greenspan memoirs: The Age of Turbulence
His book might equally have been entitled The Age of Disinflation.

For the big theme of this work is how the triumph of laisser faire capitalism
around the world over the past quarter-century delivered a golden period of low inflation, low interest rates and global prosperity.
Krishna Guha, Financial Times, September 17 2007

Our knowledge about many of the important linkages is far from complete
and in all likelihood will always remain so.

Monetary Policy under Uncertainty,
Alan Greenspan, Jackson Hole, August 29, 2003

"Despite the extensive efforts to capture and quantify these key macroeconomic relationships, our knowledge about many of the important linkages is far from complete and in all likelihood will always remain so. Every model, no matter how detailed or how well designed conceptually and empirically, is a vastly simplified representation of the world that we experience with all its intricacies on a day-to-day basis. Consequently, even with large advances in computational capabilities and greater comprehension of economic linkages, our knowledge base is barely able to keep pace with the ever-increasing complexity of our global economy."

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Monetary Policy under Uncertainty
Ben S. Bernanke, October 19, 2007
Början på sidan - Top of page

20 years already? Alan Greenspan and the ‘irrational exuberance’
MarketWatch, Dec 5, 2016

But how do we know when irrational exuberance has unduly escalated asset values
The day of the speech, the Dow Jones industrial average closed at 6,437.10 points
Click here

Greenspan, Alan, om "infectious greed"
Why Greenspan allowed irrational exuberance
Chairman Alan Greenspan January 20, 1999 about savings and asset prices
- Greenspan Hoped To Prick Stock Market `Bubble' In '94
Chairman Alan Greenspan, 4, 1998 Question: Is There a New Economy?

It cannot be that bad, can it?

Mr Greenspan was not certain that the equity market was indeed a bubble. But by September, he was explicitly referring to it in such terms: "I recognise that there is a stock market bubble problem at this point," he said at the September 24, 1996 meeting - the day the Dow closed at 5874.03.

- The Federal Reserve "cannot afford" to let U.S. housing prices fall sharply and will have to cut interest rates aggressively to prevent that from happening
"A Fed cannot afford to let homes go down by 10 to 15 percent like we saw in Japan," said Bill Gross, chief investment officer of Pacific Investment Management Co. or Pimco, on CNBC Television.
Nov 5 2007(Reuters)

The turmoil in the subprime mortgage-market is a "$1 trillion problem ... there are $1 trillion worth of subprimes and Alt-As and basically garbage loans," Gross said. He expects $250 billion of subprime and Alt-A mortgage loans to default and those defaults will fall to the balance sheets of investment stalwarts such as Merrill Lynch and Citigroup

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The former Fed chairman urged central banks to avoid suppressing asset bubbles, which is "exceptionally difficult" to do.
"The critical issue on the whole subprime, and by extension, the international financial system
rests very narrowly on getting rid of probably 200,000-300,000 excess units in inventory," /-houses/

Alan Greenspan, CNN 2007-11-06

Central banks avoid worldwide inflation by maintaining monetary tightness at appropriate levels, he said.

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Rolf Englund (webmaster): The source is not there any longer.
But you can read the same thing also at

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America's IT-enabled productivity resurgence in the late 1990s was the siren song for the Greenspan-led Federal Reserve
- convincing the US central bank that it need not stand in the way of either rapid economic growth or excess liquidity creation.
In retrospect, that was the "original sin" of bubble-world - a Fed that condoned the equity bubble of the late 1990s and the asset-dependent US economy it spawned.
That set in motion a chain of events that has allowed one bubble to beget another - from equities to housing to credit.
Stephen S. Roach 2007-10-22

Joseph Stiglitz, a Nobel-prize winning economist,
said successive Federal Reserve chairmen have left the U.S. economy facing a ``very significant'' slowdown.

Bloomberg Feb. 26 2008

Current Fed chief Ben S. Bernanke was too slow to cut interest rates as the U.S. real-estate market deteriorated, while his predecessor, Alan Greenspan, ``actively looked the other way'' as the housing market inflated, Stiglitz said in a Bloomberg Television interview today in London.

Greenspan ``is right that this downturn is going to be the worst downturn in a quarter century, but he's largely to blame,'' Stiglitz said. ``It's not just that he was asleep at the wheel, he actively looked the other way'' by dismissing the housing-price appreciation as ``froth.''

European monetary-policy makers may also be underestimating the risks to economic growth, Stiglitz said. The European Central Bank's mandate, which sets price stability as the sole objective, is ``flawed'' because it prevents ECB President Jean-Claude Trichet from supporting job creation.

``He should not be focusing so much on inflation especially when so much of it is imported,'' Stiglitz said. ``Higher interest rates won't solve the problem of higher oil prices.''

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Joseph E. Stiglitz

Jean-Claude Trichet


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Greenspan's errors in judgment seemed so obvious they beg the questions:
Why did he make them?
Did he actually set out to redistribute wealth from the middle class to the rich while the country itself essentially burned the furniture for heat?
After all, his bubbles made the sponsors of those bubbles fabulously wealthy, ultimately to the detriment of the average person and the United States as a whole.
Or was he simply not up to the task?
Bill Fleckenstein, CNBC January 17, 2008

It is oddly ironic that a small group like the Federal Open Market Committee, similar to those found at all levels of any former communist regime, would be in charge of the world's largest and most successful capitalist country - that is, the United States of America and its $13 trillion economy.

I saw the stock market bubble building and concluded it would end in disaster - about four years too soon!
Then again, I never pretended to know what the right interest rate to run the country was.

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Greenspan's Bubbles: The Age of Ignorance at the Federal Reserve (Hardcover)
by William Fleckenstein and Fred Sheehan at Amazon UK

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In 2007 there was one economic event of such overwhelming significance that it dwarfed all the others - the credit crunch. - Who was to blame?, Roger Bootle

Banks Gone Wild
Paul Krugman NYT November 23, 2007

This slump was both predictable and predicted. “These days,” I wrote in August 2005, “Americans make a living selling each other houses, paid for with money borrowed from the Chinese. Somehow, that doesn’t seem like a sustainable lifestyle.” It wasn’t.

You still hear occasional claims that the subprime fiasco is no big deal. Even though the numbers keep getting bigger — some observers are now talking about $400 billion in losses — these losses are small compared with the total value of financial assets.

But bad housing investments are crippling financial institutions that play a crucial role in providing credit, by wiping out much of their capital. In a recent report, Goldman Sachs suggested that housing-related losses could force banks and other players to cut lending by as much as $2 trillion — enough to trigger a nasty recession, if it happens quickly.

How did things go so wrong?
Part of the answer is that people who should have been alert to the dangers, and taken precautionary measures, instead blithely assured Americans that everything was fine, and even encouraged them to take out risky mortgages.
Yes, Alan Greenspan, that means you.

The huge rewards executives receive if they can fake success are what led to the great corporate scandals of a few years back. There’s no indication that any laws were broken this time — but the public’s trust was nonetheless betrayed, once again.

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Banks - Houseprices

Central banks should prick asset bubbles
Paul De Grauwe, FT November 1 2007

The credit crisis that hit the world economy in August teaches us many lessons about the workings of integrated financial markets.
It also teaches us something about the responsibilities of central banks.

Until the crisis, the consensus view was that central banks should target inflation and that is pretty much all they should do. In this view, central banks should not target (or try to influence) asset prices either, as was stressed by the former Federal Reserve chairman Alan Greenspan, because central banks cannot recognise bubbles ex ante.

Or, if they can, the macro­economic consequences of bubbles and crashes are limited as long as central banks keep inflation on track.
Inflation targeting, we were told, is the new best practice for central bankers that makes it unnecessary for them to try to influence asset prices.

The credit crisis has unveiled the fallacy of this hands-off view.

Monetarism - Houseprices

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Uncertainties about the future development of the US economy run deep.
There are two opposing views of what has happened to it since the early 1990s,
which originate in two very different theories of the business cycle.

Paul de Grauwe, FT 16/7 2007

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The Fed, like the rest of the US, overreacted to September 11.
The Fed was, of course, right to cut nominal interest rates during the recession, but the Fed was not right to opt for negative real interest rates,
and to leave short-term nominal rates at 1% for a year.
Wolfgang Münchau, Eurointelligence 13.09.2007

The loose monetary conditions have no doubt encouraged a large amount of activity in the credit market. It has turned what would have been risky investments into riskless bets. It encouraged carry trades, which are a no-brainer when interest rates are negative; it encouraged a housing boom of unprecedented proportions, as everybody gained from the most reckless lending practices. For a long time, sellers and buyers in the housing market knew that house prices would rise faster than the cost of finance. In such an environment, it was entirely rational for people to take on levels of debts that would be considered excessive under normal circumstances. The Fed’s interest policy gave rise to numerous Ponzi schemes, the effect of which we are now seeing.

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Should central banks take account of asset prices?
This was until recently one of the most hotly debated subjects in monetary economics.
As of this week, the issue has been effectively settled.
Everybody now believes, or rather acts as if, they should.

Eurointelligence, 19/9 2007
Highly recommended

Bernanke’s Sophie's Choice:
"The housing market or stock market Mr. Bernanke. You may only be able to try and save one..."

The Fed can indeed be accused of being a serial bubble-blower.
But this is not because it has been managed by incompetents.
It is because it has been managed by competent people responding to exceptional circumstances.

Martin Wolf, August 22 2007

Dr. Housing Bubble figures that the Fed and the banks
providing unlimited amounts of money to create the real estate bubble
(which I sarcastically note was created by the Fed and Congress to bail out the busted stock market bubble in 2000, which the Fed also provided the financing for)
has created US$5 trillion in “bubble wealth”.
Mogambo Guru 17/7 2007

Can the Fed Control Prices?
Bernanke admitted that he has no control over asset prices or even key interest rates. But does he have control over any prices?
Michael Shedlock 20/7 2007

Very unusual things going on now
Alan Greenspan said the prevalence of low interest rates throughout the world was one of the things that surprised him as he prepared
his reflections on his past for the new book he was promoting, "The Age of Turbulence."
CNN June 1 2007

The book, to be published in September, will also include commentary on the future, as well as reflections on his 18-1/2 years at the helm of the U.S. central bank.

"When I got to look at the future there were very unusual things going on now," said Greenspan, who was speaking at a publishing convention. "Interest rates in the United States are low, but they are low all over the world, including developing nations which never saw single-digit interest rates"



Alan Greenspan said he was concerned Chinese stocks might undergo a ``dramatic contraction''
after its main stock index jumped more than 90 percent this year.
May 23 2007 (Bloomberg)

Any excuse will do as markets continue to move on the expectation that global central banks don't have the cojones to withdraw liquidity, that is, to increase the cost of debt in our highly leveraged global financial system
May 17, 2007 (iTulip)

so the flow of money to finance deals will continue unabated. Like the IPO mania of 1999, this disease has infected not a few hundred board rooms of dot coms and telco companies, which industries represent a few percent of the US economy, but thousands of board rooms, representing just about every public company in every market and a significant share of the US economy. We have yet to speak to a CEO or senior exec of a public company that won't confide the giddy hope, bordering on conviction, that their company is next in line to receive a proposal for marriage from a larger company, an LBO from a private equity firm or hedge fund, or some other source of capital that will result in a personal financial windfall. These expectations have infected DOW and S&P investors as well. With so many betting that the company whose stock they own is likely to be over-bid in a take-over, why sell?

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Wall Street Bubbles

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A market correction is coming, this time for real
Much of the good news has come as a result of extraordinary levels of liquidity pouring into opportunities around the globe. To a large extent this is due to the Federal Reserve’s expansionary monetary policies early in the decade and the US administration’s fiscal stimulus.
William Rhodes, FT March 29 2007

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There are two phases in an asset price bubble that repeat themselves with clockwork regularity.
The first is the phase of the bogus economic theory. I am sure you heard the one about the paradigm shift
The second phase is a prolonged state of denial.
Wolfgang Munchau, FT 19/3 2007

In the US subprime mortgage bubble, we are now in phase two

The Europeans are still in phase one of their bubble. The bogus economic theory from Spain is that large immigration can maintain a construction boom indefinitely.

In Spain, the construction and housing sector accounts for 18.5 per cent of gross domestic product, about twice as high as the eurozone average, according to the latest data from the EU’s Ameco database. The comparable figure for Germany is 8.7 per cent.

In Spain, the average price of a square metre of residential property went up from about under €700 in 1997 to just under €2,000 ($2,700) at the end of last year – up threefold.

Another example is Ireland. In Ireland, the GDP share of construction and housing is even higher, at 20.7 per cent. While the performance of the Irish economy during the past few decades was remarkable, there are some deep underlying structural problems that are now surfacing. In particular, Ireland has been fast losing competitiveness within the eurozone – not a subject that has been talked about much outside Ireland recently. With interest rates rising and a slow return to sanity in the financial sector Ireland is going down the same route as Spain, perhaps only faster.

Spain - Ireland - US subprime mortgage bubble - paradigm shift/New Era - Wolfgang Munchau

Rolf Englund about New Era, June 29, 1999

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Recession in 2007?
Greenspan's recession comment opened the floodgates for the use of the "r word."
John H. Makin, 21/3 2007

Why the subprime bust will spread
Greenspan has been rightly criticized for letting a housing price "bubble" develop
Henry C K Liu

Greenspan: says yen carry trade is going strong but there could be a turnaround at some point.
Money CNN March 7 2007

I believe US stocks are now very attractive for investors.
Jeremy Siegel, FT, 26/4 2007

In the US, the long-term average p/e ratio has been 14.4 times, which corresponds to a 6.9 per cent earnings yield. This is extremely close to the historical average real return on equities.

There are two factors that argue for higher long-term p/e ratios:
the steep drop in transactions costs, which has allowed low-cost global diversification, and
the reduction in economic volatility, which should reduce the equity risk premium.

The reduction in transactions costs and bid-ask spreads has enabled investors to acquire and maintain a fully diversified global portfolio at a small fraction required before the deregulation of brokerage costs that prevailed 25 years ago.
In addition, the decline in the variability of real economic variables in the post-second world war economy should also lead to higher valuations. Economists call the reduced volatility “the Great Moderation” and have attributed it to better central bank policy and inventory control, and a growing service sector, which is inherently more stable than manufacturing.

These factors could boost the normal p/e ratio for equities to 20, with a resulting earnings yield of 5 per cent.

From that higher level, a 5 per cent real return on stocks still yields a 3 per cent premium over inflation-indexed bonds, a margin that many money managers believe is reasonable for stocks.

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Comment by Rolf Englund:
I could not disagree more! In my not so humble opinion the "Imbalances" (US Trade deficit and all that) mean that the world economy, and the US economy in particular is facing disaster. And at that time Siegel argues that "the decline in the variability of real economic variables" should also lead to higher valuations.
Instead of reading Siegel you should perhaps better read Jonathan Livingston Seagull

Why have markets reached their exposed position? The answer is that success breeds excess.
This is the argument of a fascinating new paper from William White, economic adviser to the Bank for International Settlements.
The longer the period of macroeconomic stability, the greater the underlying excesses in investment and borrowing are likely to become. What happened to Japan in the 1980s is an example of this danger.
Martin Wolf, Financial Times 24/5 2006

Wall Street

Real Interest rates

Irrational Exuberance, Reconsidered
Now that we have 10 years of economic and financial data, we can now accurately determine whether the market was indeed "irrationally exuberant" in December 1996. The answer is decidedly no.
Jeremy Siegel, WSJ 6/12 2006

Ten years ago yesterday, Alan Greenspan made what was to become the most famous speech in his 18-year tenure as chairman of the Federal Reserve. Against a backdrop of a strong economy and soaring stock market, Mr. Greenspan said: "How do we know when irrational exuberance has unduly escalated asset values? . . . We should not underestimate . . . the interactions of asset markets and the economy. Asset prices, particularly, must be an integral part of the development of monetary policy."

When Mr. Greenspan spoke at the annual dinner of the American Enterprise Institute in Washington. The Dow Jones Industrial Average had crossed 5000 in November 1995 and 6000 in October 1996. On the day of Mr. Greenspan's speech, the Dow industrials stood at 6437, more than twice the level it reached only four years earlier.

There is no good evidence that the market was in a bubble when he uttered his famous line 10 years ago, and he was wise in stepping back from it. Irrational exuberance finally did hit the stock market, but not at the time or in the scope envisioned by his critics.

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Nice chart at the top of this page

Recent stock market turbulence should abate because
the US economy remains fundamentally strong

President George W Bush, BBC 9/8 2007

President Bush said he believed the markets were set for a "soft landing".

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In October 1929, Professor Irving Fisher of Yale University, a great guru of the markets, earned immortality with the pronouncement:
"stock prices have reached what looks like a permanently high plateau."
Read more

Ronald Reagans words from the 1987 Crasch:"Stocks went down because they were too high"
Ronald Reagan, 1987

Ben Bernanke laid out a soft-landing scenario for the US economy in his testimony to Congress,
with core inflation inching down to 2 per cent or below next year.
Financial Times 15/2 2007

The monetary policy report described the economic outlook as “favourable” - a judgement likely to fuel market optimism that the US is returning to a “Goldilocks” scenario, with the economy neither too hot nor too cold.


The US may be heading for a crash — but it's not the end of the world
Gerard Baker, The Times 15/8 2006

As elusive objectives go, the economic soft landing used to be up there with the lasting peace in the Middle East, the end to poverty in Africa and the cure for cancer. It featured prominently in the rhetorical promises of policymakers but rarely in the harsh reality of a world that refused to conform to wishful thinking.

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Soft landing?
So many folks in the investment business - and in the country at large - haven't experienced a consumer-led recession in so long that they think this outcome is just not possible.
That's because the Federal Reserve Board has evolved into being a business-cycle suppressor and bubble manager.
Bill Fleckenstein, CNBC 18/12 2006

To review: We had a mindless equity bubble that was precipitated by a complete abdication of responsibility on the part of Fed monetary policy. That bubble popped in 2000, precipitating a recession led by businesses cutting back from their previous misallocations of capital. Next came our umpteen interest-rate cuts and tax cuts to help fight the aftermath, the result of which was a massive housing bubble - aided and abetted by the utterly irresponsible actions on the part of lenders.

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Investors Hope the Fed Can Guide The Economy to a Soft Landing
History Says That's a Bad Bet
E.S. Browning, Wall Street Journal August 21, 2006

Whether the stock rally fizzles out or keeps going will depend heavily on whether Federal Reserve Chairman Ben Bernanke can pull off a nifty trick, piloting the economy to what professional investors call a soft landing.
A soft landing is what you want, but almost never get, at the end of a boom.

The idea is for the central bank to slow the economy just enough to prevent serious inflation, but not enough to choke off growth. Success brings another of Wall Street's favorite clichés - a Goldilocks economy, in which growth is not too hot and not too cold.

Trouble is, although they get talked about a lot, soft landings rarely happen. Going just far enough but not too far -- and doing so during an election year and amid conflicting economic signals - is one of the hardest things for monetary-policy makers to do. They almost never have succeeded.

Since the mid-1970s, almost every time the Fed has pushed rates higher, it has created a recession, a bear market or both. The notable exception came in 1994 and 1995, when the Fed raised rates without causing either, but did blow up the bond market and tank the Mexican peso.

Some fear the worst of all worlds - both inflation and an economic slump, an evil combination known as stagflation, the likes of which was last seen in the 1970s.

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For years, real-estate brokers and home builders promised that the soaring property market eventually would glide to a soft landing.
It isn't working out that way.
Wall Street Journal 23/8 2006


"Soft Landing: Many See a Goldilocks Market, While Others See Stagflation Light."
John Mauldin, 18/8 2006

Mauldin: When everything is priced for perfection - and we are pretty perfect, I think - that's a difficult situation in which to be bullish on the stock market. Are we really priced for perfection? P/E ratios seem to be at reasonable levels.
Mauldin: John Hussman [manager of the Hussman Funds] has said that if you normalized earnings, meaning if you took earnings back [from a record-high percentage of GDP] to where they would normally be, the P/E for the S&P would be closer to 24 or 25.
If you revert earnings to the mean, you're looking at real room to fall.

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There are certain issues the mention of which acts as a conversation stopper for most people. An example is: “Should central bankers target asset prices?” But the problem will not go away. What is at stake is the long-run credibility of central banks.
Even more important are the questions that it raises about the duration of the present happy combination of world economic growth and low inflation, which the National Institute of Economic and Social Research sees as the “strongest since the early 1970s”.
Samuel Brittan, FT, July 28 2006

Yet there is another school of thought, which is more diverse and less clearly articulated, that includes unreconstructed monetarists who fear the dismissal of near double-digit growth of monetary aggregates will bring its nemesis. Then there are the old financial hands who look at rising oil, gold and other commodity prices which have traditionally been key leading indicators.

Edward Heath, the former British prime minister, once compared the sole reliance on short-term interest rates to the actions of a one-club golfer. The stricture still applies.

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RE: For more about Early 70's - see Stagflation

More by Samuel Brittan


One central banker who understands inflation in its various forms is First Deputy Governor Eva Srejber of Sweden's Riksbank - who, in a speech last week about asset bubbles, showed that the applause meter has no place in the responsible conduct of monetary policy:
Longtime readers know that Eva and I are on the same page. It's refreshing to find a central banker somewhere who is capable of recognizing the facts - and willing to stand up publicly and call a bubble a bubble.
Bill Fleckenstein, CNBC 10/7 2006

In an attempt to avoid the consequences of the late-1990s stock mania, the Fed managed (after 13 rate cuts and several tax cuts) to precipitate a bubble in housing. That bubble, in my opinion, is a far more dangerous problem than the stock mania was, because of all the leverage involved
Bill Fleckenstein, CNBC 3/7 2006

For a year, through June 2004, the Federal Reserve held the federal funds rate at 1%.
Chairman Alan Greenspan and the chairman-to-be, Ben S. Bernanke, said they were fighting an anticipatory battle against deflation. They wanted to preserve the U.S. from a Japanese-style funk following the bursting of the stock-market bubble in 2000--01.
So they dropped lending rates to the floor and pushed home prices to the moon.
James Grant, 9/6 2006

You are Chairman Bernanke. What do you do?
A conscientious fellow, you try first to do no harm. You have made a lifelong study of deflation and the Great Depression. Of all the mistakes you could make at the helm of the Federal Open Market Committee, there is one you really want to avoid: You do not want to go down in history as the scholar of the Great Depression who inadvertently steered the highly leveraged U.S. economy into Great Depression Part II. You will be slow to tighten monetary policy when home prices are deflating, let the cpi be what it may.

You can be sure that gold will have its own bull market when the dollar resumes its bear market. When will that day come, and how high is up? I don't know - and neither does Bernanke.

James Grant


Moral Hazard Interruptus
the Peoples Bank of China (PBOC), the Bank of Japan (BOJ) and the Federal Reserve
Paul McCulley, PIMCO, June 2006

Over the last year, monetary policy makers and market practitioners have spent a huge amount of mental energy, loads of computer time and gallons of ink examining the conundrum – the putatively too-low level of long-term real interest rates, both absolutely and relative to real short-term interest rates.

I’m not sure these four suspects necessarily committed the conundrum crime. They may have simply been at the scene of the crime! In which case, who dunnit? ‘Twas the oldest of villains named moral hazard, the bootlegger behind nearly all skinny risk premium crimes. And, in fact, there were three of them: the Peoples Bank of China (PBOC), the Bank of Japan (BOJ) and the Federal Reserve. Not that they did anything illegal, I hasten to add. Rather, for their own individual good reasons, they precommitted to absorbing three major risks from the global markets:

Debate as to whether the big three should have done what they did frequently takes on a religious character, with Keynesians applauding and Austrians booing. You know which camp I’m in! But regardless of your religious persuasion in these matters, we should all agree on what transpired: concerted global reflationary monetary policy, with central banks de facto shorting both a deflationary put at the bottom of their inflation comfort zones and an inflationary call at the top of those comfort zones.

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Moral Hazard


Over the past six years, monetary authorities have turned the liquidity spigot wide open. This has given rise to an endless string of asset bubbles — from equities to bonds to property to risky assets (emerging markets and high-yield credit) to commodities.
Central banks have ducked responsibility for this state of affairs.
That could end up being a policy blunder of monumental proportions.

(see, for example, Alan Greenspan’s 3 January 2004 speech, “Risk and Uncertainty in Monetary Policy”)
Stephen S. Roach, Morgan Stanley, 22/5 2006

Suddenly, this year has all the ingredients of a Big One.
The dollar is sinking. Global stock markets are volatile. Bond-market interest rates are climbing. Oil prices are up. Gold is at a quarter-century high. Housing prices are softening. Protectionist pressures are intensifying. General Motors Corp. is a candidate for bankruptcy court. Iran may be on the verge of going nuclear. A nasty, partisan congressional election looms. And a new Federal Reserve chairman's inflation-fighting resolve is being tested.
Alan Greenspan certainly picked a good time to retire.
David Wessel, Wall Street Journal 25/5 2006

Every so often, economic forces and financial markets collide in ways that make for a tumultuous year -- the stock market crash in 1987, the Asian financial crisis and bond-market paralysis in 1998, the bursting stock bubble in 2000.

"We told you it was too good to last," the Cassandras are chanting.

And the OECD, while reiterating an upbeat forecast, allowed this week that "risks surrounding this scenario have increased."

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Greenspan:Three Sins, One Gift
Sin #1 - Ignoring Asset Prices
Sin #2 - Bending to the Will of Others
Sin #3 - Fostering a Culture of Debt
The Gift - Hastening the Demise of Fiat Money

Tim Iacono 31/1 2006

Throughout history monetary systems have come and gone, though few people have understood what money is or how it works. Money is, and always has been, a medium of exchange - a way for people to trade their labor, or the fruits of their labor, for other goods that they want or need. To most people, it's as simple as that. But, money is also a store of value.

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As anonymous economists at The Economist have already done most of the heavy lifting required to make the case for sin number one, Ignoring Asset Prices, attempting to recreate those arguments here seemed an unproductive use of time. Their well-reasoned points have been liberally excerpted below, however readers are encouraged to enjoy the original accounts in their entirety - Monetary Myopia , and the cover story, Danger Time in America. They are masterfully written and available at no cost.
Tim Iacono 13/1 2006

has been proclaimed “the greatest central banker who ever lived”. Among ordinary Americans he enjoys almost rock-star status. He has been awarded the Presidential Medal of Freedom, a British knighthood and the French Legion of Honour.
Does he really deserve such uniform praise?
The Economist, 12/1 2006

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Danger time for America
The economy that Alan Greenspan is about to hand over is in a much less healthy state than is popularly assumed
The Economist editorial, 12/1 2006

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Greenspan's reputation may not be totally secure
By Sir Howard Davies, BBC 29/12 2005

Sir Howard Davies is director of the London School of Economics. He has also been a deputy governor of the Bank of England, and chairman of the Financial Services Authority. He presents The Greenspan Years, to be broadcast on Monday, 2 January, 2006 at 2000 GMT on BBC Radio 4.

It is likely that the controversy will continue about his legacy.

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The Bubble Cycle is Replacing the Business Cycle
Let's put to rest the myth that the Fed is blind to asset bubbles and never intentionally acts to prick them. The truth can be obtained by anyone with an internet browser and a few hours
Eric Janszen 22/12 2005

The Greenspan Warnings
Nick Barisheff November 22, 2005

Derivatives Dangers In remarks to Congress in October, 1998

The Potential Drop in Asset Values, Jackson Hole, Wyoming on August 26, 2005

The Housing Bubble, Jackson Hole on August 27, 2005

The Coming Crisis in Social Security, US House of Representatives, February 11, 2004

Oil Supply Risks, Washington, D.C., October 15, 2004

The Rising Budget Deficit, US House of Representatives, July 20, 2005

Rising Long-Term Interest Rates, in Germany, November 19, 2004

The Record-High Current Account Deficit, US House of Representatives, February 11, 2004

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The Mess Greenspan Leaves
We can see here how the policy of inflating bubble after bubble to avoid the recessionary implications of previous bubbles has resulted in ever greater imbalances, with the savings rate falling ever lower after each bubble and the debt burden growing ever greater.
More disastrous, however, was the Federal Reserve's attempt to assist Great Britain who had been losing gold to us because the Bank of England refused to allow interest rates to rise
Stefan Karlsson, December 26, 2005

If the pernicious drift toward fiscal instability in the United States and elsewhere is not arrested
the adjustment process could be quite painful for the world economy
pernicious \pur-NISH-us\, adjective: Highly injurious; deadly; destructive; exceedingly harmful.
Alan Greenspan 2/12 2005

"To date, despite a current account deficit exceeding 6% of our gross domestic product, we -- or more exactly, the economic entities that comprise the U.S. economy -- are experiencing few difficulties in attracting the foreign saving required to finance it, as evidenced by the recent upward pressure on the dollar,"
I doubt, however, whether, given the current size of global financial markets, locking together two major currencies such as the dollar and the euro is feasible any longer. Over time, the required large domestic adjustments would be quite unlikely to be accepted by the majority of residents of either the United States or those of the euro area.
Remarks by Chairman Alan Greenspan, November 14, 2005

The markets are not behaving in the way that some, if not most, analysts anticipated as the U.S. current account deficit rose above its previous high of 3-1/2 percent of GDP recorded in 1986.

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Alan Greenspan will be remembered as Copernicus, Columbus and Galileo, rolled into one.
In Europe central bankers and politicians still refuse to learn these lessons. They are still trying to apply the simplistic monetarist theory once believed to be the only alternative to the old gold standard, but thoroughly discredited by the Greenspan Fed.
Anatole Kaletsky, The Times, 27/10 2005

In 1971, however, President Nixon suddenly suspended the legal convertibility of the dollar into gold. The value of money was no longer linked to any objective standard of value, be it gold or cowrie shells. For the first time the whole world was operating what economists call “pure fiat money”.

In Britain, the possibility of managing an economy with pure paper money to achieve simultaneous price stability and full employment was a lesson that took 20 years to sink in. The moment of truth arrived on Black Wednesday in September 1992, when the Government was finally forced to take full responsibility for maintaining the value of money in Britain, instead of trying to peg the pound to the dollar, the deutschmark or the euro, in the same way as the pre-war Treasury had been obsessed with preserving the link to gold.

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Kronkursförsvaret 1992


Comment by Rolf Englund:
For once, I beg to differ with Anatole Kaletsky. Defending the exchange rate is fundamentally different to monetarism.
A central bank can target, the interest rate, the exchange rate or the money supply.
One of them - and the other numbers will be what they will be.
Que Sera, Sera

Sambandet mellan den fasta växelkursen och realräntechocken
Rolf Englund, oktober 2005


Alan Greenspan is everything an all-powerful central banker should be: boring, elderly, brainy, long-winded, and most importantly LUCKY.
Alan Greenspan has perpetuated a recession-less economy mentality that will ultimately lead to the mother of all recessions when the giant U.S. real estate bubble he created pops slowing our heavily-levered consumption-driven country
Bernanke will be the man in charge of trying to put Humpty Dumpty back together again.
Stein&McIntyre 25/10 2005

The most important element of our financial system today is confidence. While he lacks charisma, Alan Greenspan is the perfect confidence artist. He is everything an all-powerful central banker should be: boring, elderly, brainy, long-winded, and most importantly LUCKY. Easy Al has been able to paper over all of the U.S.' problems over the last decade or so and to date a drunken U.S. economy has yet to feel the real hangover. There was Mexico in '94, Asian Meltdown/LTCM in '98, Y2K, and the Internet bubble bursting/911 from '00-'02 where Greenspan (frightened at the thought of a normal recession and the accompanying political fallout it might bring) did everything in his power to try and avert the business cycle. Whether it be by lowering the price of money (interest rates) or ramping up the availability of credit through monetary supply increases and the prompting of GSEs and banks to stimulate lending, Alan Greenspan has perpetuated a recession-less economy mentality that will ultimately lead to the mother of all recessions when the giant U.S. real estate bubble he created pops slowing our heavily-levered consumption-driven country and sparking a nasty time in America. Bernanke will be the man in charge of trying to put Humpty Dumpty back together again.

Apart from Bernie Sanders (I-VT) and Ron Paul (R-TX), most congressmen fail to make good use of Greenspan's appearances on Capitol Hill. Republicans and Democrats will either ask elementary school level questions or try to get the chairman to endorse (or reject) a particular policy position.

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Ben Bernanke

It is little wonder that Mr Greenspan has become an almost legendary figure. Yet how good has his performance been and what lessons does his tenure bequeath?
Mr Volcker had to crush inflation. Mr Greenspan had merely to keep the show on the road.
Another reason for questioning the unique sagacity of the chairman is that low inflation has broken out all over the world.
Surprisingly for a man once known as a gold bug and disciple of Ayn Rand’s libertarian philosophy, Mr Greenspan has emerged as the policymaker closest in spirit to Maynard Keynes.
Martin Wolf, Financial Times, 19/10 2005

Yet another reason for questioning the unique sagacity of the chairman is that low inflation has broken out all over the world. The monetarist counter-revolution, the pain caused by the inflationary excesses of the 1970s, globalisation and the weakening of trade union power have improved the medium-term trade-off between inflation and output, everywhere.

It is hard to decide how the most important of all central banks should operate because we do not have a clear enough understanding of the underlying economics, particularly of asset prices.

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More by Martin Wolf


I think the next Fed chairman is going to be Ben Bernanke. Of course, Bernanke is exactly the opposite of what you'd want to have in a Fed chairman
The new person will only get all the blame, because most folks don't understand that the problems due to hit us were created during Al's 18-year run.
Some people have suggested that Bob Rubin - Jim Grant
Bill Fleckenstein, CNBC, 17/10 2005

Be well-versed in the so-called Austrian School of Economics.
This last requirement refers to a school of economic thought championed by, among others, Nobel laureate Friedrich von Hayek. The Austrians deny that a central bank, such as the Fed, can work economic miracles by juggling interest rates. In effect, the Austrians hold, interest rates are the traffic signals of a market economy. Turn them all green, and what you get are lots of pileups.

The Fed only has two choices: fix the price of money (as it now does, poorly) or do what former Fed Chairman Paul Volcker did, which was to drain or add liquidity in an attempt to achieve a specified monetary growth rate and control inflation. As ephemeral a concept as money has become in the electronic age, and as difficult as it would be to create the right growth rate for money, it's a far sounder approach than trying to pick the right rate.

Some people have suggested that Bob Rubin, Treasury secretary in the Clinton administration, might be the next Fed chairman. My response: He's way too smart to take the job. I don't believe that anyone with a firm grasp of what's going on would even consider the position, as there is absolutely no painless (or even quasi-painless) way out.

But if forced to name my choice for Fed chairman, it would be a friend of mine who possesses all the qualities I have suggested: Jim Grant, a man who has forgotten more about financial history than Greenspan knows. Jim's highly praised newsletter has consistently advocated an intelligent course of action while Greenspan has consistently chosen the most popular, or least painful, option.

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Jim Grant


Alan Greenspan, the world's biggest serial bubble blower and most incompetent,
irresponsible Fed chairman of all time

Bill Fleckenstein, CNBC 4/10 2005

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When he steps down early next year, Alan Greenspan will leave behind a durable, non-inflationary economic expansion.
Cesar V. Conda, Wall Street Journal, 5/10 2005

Dollar crashes, interest rates fall?
Alan Greenspan's legacy may hinge on whether that headline is written, or whether the headline reads:
"Dollar crashes, interest rates surge."

Brad Setser's Web Log, 26/8 2005

We believe the best choice would be Don Kohn
How can The Economist endorse Mr Greenspan's right-hand man, when we have long criticised the chairman for failing to curb the stockmarket bubble in the late 1990s, and later for propping up the economy by inflating a housing bubble?
The Economist 13/10 2005

When he steps down early next year, Alan Greenspan will leave behind a durable, non-inflationary economic expansion.
Cesar V. Conda, Wall Street Journal, 5/10 2005

President George W. Bush should choose someone who not only shares his low-tax, free-market economic philosophy, but who agrees with the fundamental premise that supply-side economic growth does not cause inflation. As Milton Friedman postulated, inflation is caused by too much money chasing too few goods. In fact, rapid economic growth and output dampens inflationary expectations because more goods are chasing the same quantity of money.

And the best way for the Fed to determine whether there is too much or too little liquidity is to use inflation-sensitive, forward-looking market price indicators as a policy guide -- what supply-siders call a price rule. Real-time market-based indicators such as the dollar exchange rate, commodity prices, and long-term interest rates -- viewed in conjunction with one another -- provide the most reliable signals about both the demand and supply of money.

In my opinion, the best candidate is Manuel Johnson, a Reaganite tax-cutter

Mr. Conda, former assistant for domestic policy to Vice President Dick Cheney, is a senior fellow at FreedomWorks and a principal of Navigators LLC, a Washington-based consulting firm.

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Demand and Supply

"En krasch är på väg"
Världsekonomin befinner sig i allt värre obalans, eftersom amerikanerna konsumerar för mycket och européerna och asiaterna för litet. Om inget görs för att rätta till problemen, är en urladdning till sist ofrånkomlig, menar investmentbanken Morgan Stanleys chefsekonom Stephen Roach.
Johan Schück, DN Ekonomi 5/10 2005

Hittills har Stephen Roach inte blivit sannspådd, på annat sätt än att obalanserna har ökat ännu mer. USA lever alltjämt över sina tillgångar, men fungerar samtidigt som världens ekonomiska draglok, Europa och Asien har inte lyckats göra sig mer oberoende, utan litar fortfarande på de amerikanska hushållens vilja att ständigt höja sin konsumtion.

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We set out today wanting to talk about last Friday's commentary by Stephen Roach regarding two speeches made by Alan Greenspan earlier in the week. Normally we would pick out a few passages and excerpt them here, then add a few thoughts of our own in an attempt to enhance the overall experience of deriding the Fed Chairman for his many sins.
Like Cropping the Mona Lisa
Today, we experienced unexpected difficulty in taking this tack.
Tim Iacono 3/10 2005

After reading this commentary a first time, then a second time more slowly and more carefully, we attempted to formulate a plan to dissect this work to best suit our purposes here. Selecting the first paragraph was easy - it is a neat five-sentence summary of the entire commentary, and would serve as a convenient launching point for some irreverent observation or theory that would come naturally once we got started.

So far, so good.

Then a problem arose.Selecting excerpts requires, by its nature, that other portions be omitted - this is where we ran into trouble.

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In a series of stunning about-faces, Federal Reserve Chairman Alan Greenspan has just recast his perceptions of the critically important relationship between monetary policy and asset markets.
Stephen Roach 30/9 2005

More by Stephen Roach


How do we get out of this scenario alive?
By Rolf Englund, Financial Times 4/10 2005
Clyde Prestowitz, like many other commentators, warns us of what could happen: "a decline in the dollar, a rise in interest rates, a slowdown in growth, a rise in unemployment and declining home equity and household wealth - in a word, a recession, if not a depression"

Remember the run-up to the popping of the technology stock bubble in March 2000.
As easy money, which the Federal Reserve itself provided, drove up stock prices, we got lectures on irrational exuberance.
Now, belatedly, the Federal Reserve has decided to warn us that housing prices are getting worryingly high
Jim Jubak, senior markets editor for MSN Money, 9/9 2005

(As the bubble continued to inflate, the Federal Reserve chairman changed his tune: Higher productivity justified some portion of these "irrationally" higher stock prices.)

Now, belatedly, the Federal Reserve has decided to warn us that housing prices are getting worryingly high in some markets. Some local housing markets might even be experiencing, dare we say it, a bubble. But is the Federal Reserve doing anything about the causes of this potential bubble? Not that I can see.

Why did banks make more loans and yet show less profit? First, because net interest income fell as the yield curve got flatter: Banks make their profit on the spread between long-term interest rates -- what they charge borrowers who take out mortgages, for example -- and short-term rates -- what they pay to raise money in the capital markets and what they pay in interest on savings accounts and other short-term instruments.

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It is too early to conclude that Mr Greenspan handled the stockmarket bubble successfully.
Having cut interest rates so hard, Mr Greenspan is leaving the economy with record current-account and household financial deficits and America's biggest housing bubble ever.
The Economist 1/9 2005

If a future conference looks back at the Greenspan era, its conclusions will be less flattering if house prices have fallen, dragging the economy down with them. More economists and Fed officials might then question the doctrine that asset prices are not the responsibility of central banks. Mr Greenspan already seems to be edging in that direction.

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Chairman Alan Greenspan's Fed has already contributed to higher oil and commodity prices by keeping monetary policy too loose for too long in 2003 and 2004.
This is beginning to show itself in rising consumer prices this year and is likely to continue to do so in the coming months.
Wall Street Journal editorial 1/9 2005

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Many say the final assessment of Greenspan's tenure as Fed chairman will not be written until it is clear how the possible housing market bubble is resolved.
"The question is, how do we get out of this alive?"
Gregg Rob, Market Watch 24/8 2005

One way or another, the economy will eventually eliminate both imbalances.
But if the process doesn't go smoothly - if, in particular, the housing bubble bursts before the trade deficit shrinks - we're going to have an economic slowdown, and possibly a recession.
In fact, a growing number of economists are using the "R" word for 2006
Paul Krugman, New York Times, August 29, 2005

Regular readers know that I have never forgiven the Federal Reserve chairman for his role in creating today's budget deficit. In 2001 Mr. Greenspan, a stern fiscal taskmaster during the Clinton years, gave decisive support to the Bush administration's irresponsible tax cuts, urging Congress to reduce the federal government's revenue so that it wouldn't pay off its debt too quickly.

Since then, federal debt has soared. But as far as I can tell, Mr. Greenspan has never admitted that he gave Congress bad advice. He has, however, gone back to lecturing us about the evils of deficits.Now, it seems, he's playing a similar game with regard to the housing bubble.

By Andrew Balls In Jackson Hole, Wyoming
Greenspan warns on impact of asset prices
Financial Times, August 26 2005 15:37

Alan Greenspan, Federal Reserve chairman, warned on Friday that movements of stocks, bonds and house prices are having a far greater impact on US and global growth than in the past.

Mr Greenspan, who is due to retire from the US central bank in January, said the Fed was paying increased attention to these issues and implied that his successor might have to cope with a sharp drop in asset prices, complicating monetary policymaking.

Alan Blinder and Ricardo Reis, of Princeton University, presenting a paper at the Fed's Jackson Hole symposium.

They added that the next chairman should take a more committee-driven approach, given the depth of experience on the FOMC. “Our view is that the FOMC would be wise to function more like a true committee, albeit one with a cheerleader, in the future than it has in the past.”

Another challenge for the next Fed chairman will be dealing with the US's unprecedented current account deficit, which stands at 6 per cent of GDP and rising. Sebastian Edwards, of the University of California Los Angeles, said in a paper presented at Jackson Hole that it was evitable that at some point there would be a sharp contraction in the current account deficit, the broadest measure of the trade position.

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Dollar and Trade Deficit


We recently marked the fifth anniversary of the peak of the great millennial stock market Bubble.
From the March 2000 top to the October 2002 trough, the U.S. stock market gave up more than half of its value, some $9.2 trillion.
Aubie Baltin, august 2005

"What they perceive as newly abundant liquidity can readily disappear," Mr. Greenspan said in a speech at an annual conference of central bankers. "Any onset of increased investor caution" could cause those prices to drop and force investors to liquidate assets to repay debts. "This is the reason that history has not dealt kindly with the aftermath of protracted periods of low-risk premiums.

The comments amounted to one of the strongest warnings Mr. Greenspan has delivered about financial market risks in years. Ever since his speech about "irrational exuberance" among investors caused markets to swoon in 1996, Greenspan has been cautious about the way he has phrased such warnings. In 1999, at the same central bankers' conference, he warned that the rise in stock prices up to that point was both inexplicable and "extraordinary."

Wall Street Journal 26/8 2005

Remarks by Chairman Alan Greenspan
Reflections on central banking
At a symposium sponsored by the Federal Reserve Bank of Kansas City, Jackson Hole, Wyoming
August 26, 2005

Since Alan Greenspan took office as Fed chairman, it has taken an average of $3.60 of debt growth to generate $1 of nominal gross domestic product growth versus a long-term average of approximately $1.5 to $1. Since the efficacy of the Greenspan Put was convincingly demonstrated in 1998, it has taken $4.72 of debt growth to generate $1 of nominal GDP growth. Since Mr Greenspan took office, the personal savings rate has declined from around 7.5 per cent to around 0.0 per cent and the money supply (here M0) has increased 334 per cent.

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R. Duncan, The Dollar Crisis: Causes, Consequences, Cures


The writer is professor of economics at Harvard University. He is a former chief economist at the International Monetary Fund
There is a curious disconnection between what most academics see as the limits of monetary policy and the popular conception of Mr Greenspan’s wide-sweeping power.
Newer theories, following up the Nobel laureates’ early work, have resuscitated an important role for monetary policy, albeit a narrower one than Keynes’ postwar followers once imagined.
Kenneth Rogoff, Financial Times, August 24 2005

Consider that the most recent Nobel prize in economics went to a pair of researchers, Finn Kydland and Edward Prescott, who argued that monetary policy plays only a relatively minor role in driving business cycles. Only a few years back, the Nobel prize went to Robert Lucas for his elegant theory in which activist monetary policy only adds unwanted noise to the economy. Does this claim not ring patently false? Doesn’t everyone now agree that ­activism has been the hallmark of the hyper-successful Greenspan Fed? Is the main complaint about the ECB and the Bank of Japan not that they are too passive?

The risk premium on long-term interest rates is down sharply, helping fuel sustained growth and expansion. (Let us set aside the thorny problem of the concomitant global housing bubble for another day.)

Certainly, there remains much room for debate on the fine points of how to respond to asset­bubbles, not to mention productivity or terms of trade shocks.

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Mr Rogoff cites the US current account deficit of 5 per cent of gross domestic product, which he, like many others, regards as unsustainable. Suppose, however, this suddenly reverts to balance. For instance, a steep collapse in US house prices could lead to a sharp rise in private savings. Indeed, he believes there is a high risk of a housing slump in the US even though the boom there has not gone as far there as it has in the UK or Australia.
Samuel Brittan Financial Times June 18 2004

Robert Lucas


The Hayek-Friedman-Keynes synthesis


In December 1996, when Alan Greenspan made his famous comment on the possibility of “irrational exuberance” in stock prices, the Dow Jones industrial average stood at 6,400
At its peak in 2000, the Dow hit 11,700. In the subsequent collapse, the index never returned to 1996 levels
Andrew Balls, Financial Times, August 22 2005

The FOMC, he said, must take into account not only the benchmark forecast but also low-probability risks that would have a large impact on the economy. In 2003, for example, the Fed took insurance against the relatively remote chance of deflation by cutting rates to an unusually low level.

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The contrast between the macro­economic management of the US and that of the eurozone during the past five years could not be greater
Where does this difference come from?
The practical men in Frankfurt have become the slaves of a theory telling us that the sources of economic cycles are shocks in technology (productivity shocks) and changes in preferences.
Paul de Grauwe, Financial Times 17/8 2005

Central bankers - commentators urge them to put their foot on the accelerator, to tap the brakes, or to aim for a soft landing.
Yet in reality they have more in common with early sea-faring navigators.
The Economist 11/8 2005

Central bankers are often viewed as drivers or pilots of their national economies. Commentators urge them to put their foot on the accelerator, to tap the brakes, or to aim for a soft landing. Yet in reality they have more in common with early sea-faring navigators. Like them, central bankers lack reliable maps and compasses. Because of statistical lags and huge uncertainty they do not know where the economy is today, let alone where it is heading.

Some of the policy dilemmas they face (eg, whether they should try to prick a housing bubble) are the equivalent of not knowing whether the Earth is flat or round. Now on top of this, today's “navigators” have a big new problem: their interest-rate rudder appears to have jammed.

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Long ago, when America’s Asset Economy was in its infancy, Alan Greenspan worried about “irrational exuberance.” But he quickly changed his mind and went on to champion the equity culture spawned by the New Economy. In my view, that was a policy blunder of monumental proportions.
Stephen Roach, June 24, 2005

Will China's float sink the housing bubble?
When asked by a member of the House Financial Services Committee last Wednesday if there would be any benefit in returning to the gold standard, Greenspan came up with one of the most incredible utterances in all his tenure:
"I don't think so, because ... since the late '70s, central bankers have behaved as though we were on the gold standard."
He seems to think that Japan's stock and real estate bubble, as well as our own, would have happened just as they did if we'd been on the gold standard, and we would have managed to arrive at this same point of economic/financial disequilibrium.
Bill Fleckenstein CNBC 25/7 2005

However, that is absolutely false. Consider only the string of successively bigger U.S. trade deficits. Under a gold standard, we would have had to settle up with our creditors in bullion, not paper dollars. Which means that we would have run out of money -- real money -- long before we could have dug ourselves into our current debt predicament.

a quote by Peter Drucker (from an interview in Business 2.0), in which he was queried about the effectiveness of the Federal Reserve today.

"The Alan Greenspan of the 1920s and 1930s was Montagu Norman, the governor of the Bank of England. He had the same reputation as Greenspan has now. But he lost it with the Depression, the same way Greenspan will lose his. The idea that the Federal Reserve chairman has power is a delusion. The only power he has is over the interest rate, and the interest rate has ceased to be important because businesses are no longer dependent upon borrowing from banks. The interest rate is only important to the stock market, to people that short or buy on margin. For the economy -- yes, if it goes up to 18% or down to 2%, but half a point is a symbolic gesture. The Fed has control only as long as people trust that when Greenspan opens his mouth, it is meaningful. But the first time it does not work -- well, magicians get no second chance."

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Norman, Strong, and Greenspan
Sean Corrigan, August 09, 2001

Confronted with a slumping economy that threatens to get worse, Alan Greenspan, like his predecessors in the 1920s, is making all the wrong choices and failing to learn from history.

Back in July 1927, Governor Montagu Norman's problems at the Bank of England were mounting. Great Britain was stripped of its assets in the Great War and of its entrepreneurial vitality by the political shift to the welfare state. Universal unemployment insurance was introduced in 1920. Norman was struggling to cope with the high parity at which it had stabilized the pound in 1925.

Full text at Mises Institute



The Mess That Greenspan Made/Tim Iacono

Greenspan's most vehement critics are convinced he has made a fundamental error as a monetary economist.
The hairshirt economists vs. the cheerleaders for growth-is-good
Business Week 28/6 2005

Cutting rates so low for so long Mr. Greenspan turned a slump into a residential property bubble. If he were to "normalize" rates, the bubble would pop.
Then comes the real emergency.

Bill Bonner 9/6 2005
Bill Bonner is the author, with Addison Wiggin, of
Financial Reckoning Day: Surviving the Soft Depression of The 21st Century.

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On Sept. 24, 1996, Fed Governor Lawrence Lindsey suggested the U.S. central bank might consider trying to rein in stocks "while the bubble still resembles surface froth."
The previous day, the Standard & Poor's 500 Index had closed at 687 points for a gain of 18 percent in 12 months.
Mark Gilbert, 1/6 2006(Bloomberg)

Sept. 24, 1996

(The opinions expressed do not necessarily reflect those of Bloomberg.)

In "Bubble Man: Alan Greenspan and the Missing 7 Trillion Dollars," Hartcher accuses the former Federal Reserve chairman of dereliction of duty for allowing a U.S. stock-market bubble to balloon and then burst on his watch.

As a former Washington bureau chief for the Australian Financial Review, Hartcher brings an outsider's perspective to the capital's machinations. While his book lacks the historical perspective of John Kenneth Galbraith's "The Great Crash 1929," it rattles along at a cracking pace, like a well-constructed documentary.

(Mark Gilbert is a Bloomberg News columnist. The opinions expressed are his own.)

"Bubble Man" is published by Norton (211 pages, $24.95).

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Lawrence Lindsey about EMU

Peter Hartcher
His book, The Ministry, the first detailed study in English of Japan's Ministry of Finance, is a window onto Japan's disastrous bubble economy and an insight into how Japan works. It was published in Japanese in 1997, and then in the US by Harvard Business School Press, in 1998. It was very positively reviewed. Business Week described it as "a dazzling mix of statistics, case studies, juicy anecdotes, and analysis" that was "key to understanding the recent past and future of Japan's political economy." David Hale called it "a fascinating account," and Professor Ross Garnaut wrote that it was "highly recommended for business consultants, scholars, and government leaders."
Lowy Institute

In Treating U.S. After Bubble, Fed Helped Create New Threats
Low Rates Bolstered Economy, But Housing, Foreign Debt Appear Out of Balance
Greenspan's Legacy at Stake
Greg Ip, Staff Reporter of The Wall Street Journal, June 9, 2005

How that will happen puts the nation in uncharted territory: After treating a bubble, how does the Fed manage the side effects of its medicine?

"We have done what no other economy has done before, faced with an asset bubble," Lawrence Lindsey, a former Fed governor and Bush adviser, said at a recent panel discussion. Praising both the Fed's rate cuts and Mr. Bush's tax cuts, he said, "This is the first time in history the textbook economic policy... was used, and worked. The problem is, once you finish that chapter of the economic texts, you turn the page and the page is blank -- because no one has gone through the process before."

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About statement by Lawrence Lindsey, a former Fed governor and Bush adviser
The textbook that Mr. Lindsey is of course referring to is the one that was written after the Great Depression. The one that says, if we are ever dumb enough to create another asset bubble like the one that preceded the Great Depression, let's inject enough money and credit into the system to make the magnitude of the bust much smaller than the magnitude of the boom.
That's where the textbook ends ... that's where we are today.

Tim Iacono, July 06, 2005

Economists are reading the wrong fairy tale.
This isn't a "Goldilocks" economy - not too hot, not too cold.
Instead, it's more like "The Emperor's New Clothes."

The emperor, in this case, is Federal Reserve Board Chairman Alan Greenspan.
Allan Murray Wall Street Journal 1/6 2005

The interest rate on 10-year Treasury bonds yesterday dropped to nearly 4%.

In February, he called the behavior of market interest rates a "conundrum" - a rare Greenspanian acknowledgment that he couldn't explain what is happening. Since then, the Fed has "raised rates" two more times, and the conundrum has deepened.
It has become the central mystery of today's economy.

Much ink has been spilled recently over whether the U.S. faces a housing "bubble." But traditional bubbles - tulips in the 1630s; tech stocks in the 1990s - are characterized by prices that move inexplicably and irrationally higher. Housing prices are less puzzling -- they keep going higher because mortgage rates remain so confoundingly low.

Fed governor Ben Bernanke, who has been nominated by the president to head his Council of Economic Advisers. He is mentioned as a possible successor to Mr. Greenspan,has given several speeches this year highlighting what he calls a "global saving glut."
A flood of money into the developed world, keeping interest rates low and current-account deficits high.


Greenspan's Second Bubble
Taken collectively, those responses have encouraged what is arguably a worldwide housing bubble.
John H. Makin, March 28, 2005

The Fed's mistake has been to keep the dollar presses running at full throttle for too long.
We aren't the only ones warning about inflation risks. No less an authority than Paul Volcker, the former Fed Chairman, used a February speech at Stanford to underscore what he called "the oldest lesson of economic policy
Wall Street Journal editorial 31/3 2005

Leave aside the debate about whether the Fed should have, or could have, done something to deflate the 1990s' stock-market bubble. Once that bubble burst, and then confronted with September 11, the Fed printed more dollars to keep consumers flush and compensate for tapped-out businesses (see the nearby chart). This is one reason the 2001 recession was among the shallowest on record.

The 10-year Treasury note has remained remarkably low despite rising short-term rates, a fact that some have interpreted as a sign of no inflation. Mr. Greenspan recently declared the 10-year note trend to be a "conundrum."
A better explanation is the "carry trade," or the habit of hedge funds and others to ride the yield curve by borrowing short at lower rates and then lending long at higher rates to make a buck. As short rates start to rise, the carry-traders get squeezed and their initial response tends to be to grow the size of the order book as long as a profit can still be made. But sooner or later the carry-trade margin vanishes, the investments have to be unwound, and the bid side for the long bond evaporates. That's when the bond bears cash in their bets as long rates climb.

We aren't the only ones warning about inflation risks. No less an authority than Paul Volcker, the former Fed Chairman, used a February speech at Stanford to underscore what he called "the oldest lesson of economic policy: a strong sense of monetary and fiscal discipline. ... This is not a time to take chances on forcing faster economic growth at the risk of rising inflation." Mr. Volcker has rarely spoken up about monetary policy since he left the Fed in 1987, so this is stout ale.

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Carry trade = räntearbitrage

Four years ago, Alan Greenspan urged Congress to cut taxes, asserting that the federal government was in imminent danger of paying off too much debt.

To put Mr. Greenspan's game of fiscal three-card monte in perspective, remember that the push for Social Security privatization is only part of the right's strategy for dismantling the New Deal and the Great Society. The other big piece of that strategy is the use of tax cuts to "starve the beast."

Until the 1970's conservatives tended to be open about their disdain for Social Security and Medicare. But honesty was bad politics, because voters value those programs. So conservative intellectuals proposed a bait-and-switch strategy: First, advocate tax cuts, using whatever tactics you think may work - supply-side economics, inflated budget projections, whatever. Then use the resulting deficits to argue for slashing government spending.

Paul Krugman Originally published in The New York Times, 3.4.05

Read more here

Rolf Englund: But listen to Donald Rumsfeld:
Rumsfeld: There's a famous Silverman's law that says something like -- that governments looking at the actions of other governments generally tend to overestimate conspiracy and calculation and underestimate incompetence and fortuity.


The resolution of our current account deficit... does not strike me as overly worrisome
Chairman Alan Greenspan cit at BBC 11/3 2005

Thank You Mr Greenspan! Speeches and Testimony of Fed Chief Alan Greenspan
The Privateer financial newsletter

Is the Fed Causing an Asset Bubble?
Nouriel Roubini"

Why Greenspan allowed irrational exuberance
Gerard Baker, Financial Times, March 07 2002

Alan Greenspan om "irrational exuberance"

One has to appreciate, in theory and in practice, Alan Greenspan's genius,
at least in the Machiavellian sense, and how it has been used in the financial markets to drive the real economy. Indeed, many notable economists, financial market participants and the press, are now acknowledging how the Fed has used asset bubbles in stocks, bonds, and housing to facilitate the continued household spending of borrowed money. This has created a false sense of wealth and has kept the economy rolling with no savings.
Richard Benson September 16, 2004

Greenspan is running out of buttons to push
Peter Hartcher, Financial Times, August 10 2004
The writer is international editor at The Sydney Morning Herald and a visiting fellow at the Lowy Institute for International Policy. He is author of a forthcoming book on Alan Greenspan and Wall Street, entitled Bubble Man

The US Federal Reserve has offered such an extraordinary stimulus to the US economy for the past three years that America's official real interest rates are still in the remarkable state of being deeply negative.

How did America get to this point? In 1996 Mr Greenspan hovered on the brink of trying to manage the Wall Street bubble - remember his famous warning of “irrational exuberance”? But he decided that this was too politically risky. He instead accommodated the bubble, cheered on the so-called New Economy and waited for the bubble to burst.

In the following three years the bubble bloated to become, in proportion to the US economy, more than twice the size of the one that had preceded the Great Crash of 1929. When it burst, Mr Greenspan had to take extraordinary measures. His recovery plan took rates so low for so long that America's conventional monetary policy options now approach the point of exhaustion. The problem Mr Greenspan is trying to solve is one of his own making.

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In the late 1990s, Greenspan decided to ignore the growing bubble in technology stock prices.
In 1996, he did mutter something about "irrational exuberance," but he soon changed his tune and embraced the new economy. By the peak of the craziness, in the spring of 2000, he was happily quoting absurd forecasts from Wall Street analysts.
Floyd Norris, International Herald Tribune 16/4 2004

There was no way to know if it was really a bubble, he said then. But if the bubble burst, he would know what to do. . Now the evidence seems clear: He did know. For a time after the bubble burst, it looked like the problems might be long-lasting, but now fears of deflation and of a prolonged economic slump have been quashed. This is a self-sustaining recovery.

So why are investors not celebrating? The decline of bond prices in response to the strong economic news this week may not have been surprising, but the weakness of the stock market was. And why would evidence of a booming economy hurt commodity prices? An answer is that the Fed has kept short-term interest rates so low for so long that a lot of leveraged speculation has built up in what Wall Street calls the "carry trade," so named because the expected profits from the investment are more than enough to carry the cost of borrowing money to finance it.

That was particularly true for bonds, but it was also true for stocks, currencies and commodities. The more someone borrowed, the higher the profit. . Banks and hedge funds seem to have a lot of carry trades.

By engineering negative real interest rates - that is, rates lower than the inflation rate - Greenspan has bolstered the economy at the risk of encouraging speculation.

Markets are starting to realize that the economy is too strong to justify keeping short-term rates so low. A federal funds rate of 2.5 percent, far above the current 1 percent, might be reasonable. That won't happen quickly, but expectations are growing that the Fed will have to begin raising rates well before this fall's U.S. presidential election. Now the Fed needs to gradually change expectations so that speculative trades can be unwound without doing unnecessary damage to markets.

"The last trick Alan Greenspan has to pull off," said Robert Barbera, chief economist of ITG/Hoenig, "is to get the federal funds rate up from crazy easy and still have everyone live happily ever after."

Mer om räntearbitrage - "carry trade"

More about real interest rates


Greenspan's fight
Low interest rates is not enough
By Martin Wolf

Financial Times, November 12 2002

Don't Count Too Much on Central Banks
By John H. Makin

Economic Outlook November 2002

Mr Greenspan's tarnished legacy
Financial Times editorial, September 14 2002

Was Alan Greenspan really powerless to stop the stockmarket bubble?
The Economist Sep 5th 2002

The perils of ignoring bubbles
By Stephen Cecchetti

The writer is professor of economics at Ohio State University, and research associate at the National Bureau of Economic Research.
He was director of research of the Federal Reserve Bank of New York between 1997 and 1999
Financial Times, September 3 2002 20:28

There may be a knighthood for Greenspan in stage-managing a bubble, but there's nothing but pain for everyone if we tell lies to each other to keep it going.
By Bill Fleckenstein CNBC website 2002-08-19

Walking on troubled waters
Martin Wolf, FT, January 12, 2000

Rational Saturninity
John Makin

Economic Outlook August 2002

Blaming the Fed
Financial Times editorial

September 2 2002

Taking asset prices seriously
By Samuel Brittan

Financial Times August 29 2002

Don't Count Too Much on Central Banks
By John H. Makin
Economic Outlook November 2002

The Fed's ability to avoid depression is a myth in the sense that experience with business cycles over the past half-century has demonstrated only the Fed's ability to end recessions of its own making, usually in pursuit of price stability.

As yet, no central bank has succeeded in mitigating the aftereffects of an investment-led cycle, in which overcapacity chronically depresses profits, as it did in the United States in the 1930s and Japan in the 1990s and has been doing again in the U.S. since early 2000. Still, heretofore the argument has been made that the earlier failures were tied to bad central bank policy, largely to inaction or late response to signs of disinflation and outright deflation. Now that central banks know what to do in a post-bubble period (the argument goes), the United States will not have to repeat the experience of the 1930s.

The strong faith that central banks and, in particular the Fed, will do the right thing this time, could be counterproductive. Confidence in the Fed's ability to avoid all but a mild recession--remember last spring's taunt "what recession?"--may actually prolong this recession and could help turn it into a depression.

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Greenspan on trial
By Martin Wolf.

Financial Times, October 1 2002 20:44

All economic policy is made under uncertainty. But there was strong evidence of a bubble in the US stock market in the late 1990s for those who wanted to look. At least three historically mean-reverting measures of value were flashing deepest red: Tobin's Q, which measures the ratio of the stock market value to corporate net worth (see chart); the cyclically adjusted ratio of stock prices to corporate earnings; and the equity risk premium, defined as the gap between the earnings yield and the real interest rate.

Mr Greenspan was aware of this, as shown by his celebrated reference to "irrational exuberance" in December 1996. Subsequently, however, he became the most important booster of the new economy with his emphasis on the upturn in productivity growth. But he failed to stress that higher productivity growth did not justify higher share prices.

Turn to the second point. Could a politically conceivable policy have halted the bubble's expansion? No, is Mr Greenspan's answer. He argues that "our experience over the past 15 years suggests that monetary tightening that deflates stock prices without depressing economic activity has often been associated with subsequent increases in the level of stock prices".

It is indeed plausible that the bubble could not have been suppressed without a big adverse impact on the economy. Could the Fed have got away with that? The demand growth of the late-1990s and 2000 was sufficient to justify a tighter monetary policy. Yet a deliberate effort at bubble-bursting would also have met fierce political resistance. If it had been tried, Mr Greenspan would, in all probability, no longer be chairman. It might still have been the right thing to attempt.

This brings us to the third point. Grant that it might have been politically dangerous to try to burst the bubble. Would it have been economically desirable? Mr Greenspan refers to causing a sizeable slowdown as the "very outcome we would be seeking to avoid". But this reluctance would be irrational if the alternative were a bigger and more intractable slowdown later on.

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Mr Greenspan's tarnished legacy
Financial Times editorial, September 14 2002

When expectations are dis-appointed, the natural urge is to find somebody to blame. Top of the list is Alan Greenspan, chairman of the Federal Reserve. The charge against Mr Greenspan is simple: he allowed a stock market bubble fuelled by debt to develop; and the subsequent bust threatens sustained economic weakness. Mr Greenspan rejects this charge outright: it was not possible to spot the bubble until it burst, he says; and even if interest rates had been raised to stop the equity party, the pain of so doing would have been worse than the current problems.

Wisdom after the event
No reasonable jury could come to a quick verdict. First, monetary policy decisions are taken under uncertainty on the basis of the best available information at the time. Wisdom after the event should impress nobody.

Second, Mr Greenspan's famed delphic utterances allow both sides to quote his past words selectively; few people insert more caveats into a speech.

Third, the eventual outcome of the asset bubble is not known - and may not become clear for years. Fourth, it is impossible to say what would have happened had alternative policies been followed.

But these difficulties are not insurmountable. First, evidence contradicts Mr Greenspan's defence. The most recent full transcripts of the Federal Open Market Committee in 1996 show the Fed chairman to be happy to talk about bubbles and the means of pricking them in September 1996.

Second, Mr Greenspan lost sight of perhaps the most important concept in central banking: caution. From a reference to "irrational exuberance" in 1996, his enthusiasm grew until, in 2000, he regularly talked of a "once in a century acceleration of innovation", a "pivotal period in American economic history", where "I see nothing to suggest these opportunities [of high rate of return productivity enhancing investments] will peter out any time soon." This was damaging because, as the bubble inflated, markets were reassured by these snippets of Mr Greenspan's unaccustomed confidence.

Third, Mr Greenspan protests too much. Forecasting errors are to be expected, so judgments made on uncertain evidence will sometimes be wrong. But Mr Greenspan is loath ever to admit past policy errors. He should learn that admitting mistakes would enhance rather than detract from his credibility.

To adapt one of his more recent memorable phrases, Mr Greenspan suffered from "infectious adulation" over the past few years. He began to believe the hype. He must now battle hard to save his reputation.
adulation = grovt smicker

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Was Alan Greenspan really powerless to stop the stockmarket bubble?
The Economist Sep 5th 2002

Detecting and pricking bubbles are both difficult, but that is not a justification for doing nothing.

Monetary policy always deals with uncertainty. Judging whether a rise in share prices is justified by an increase in productivity growth is surely not that different from deciding whether the potential rate of growth has increased or decreased. Central banks have to do that to estimate the gap between actual and potential output—itself an important input for forecasting inflation.

A central bank does not need to be completely certain to act. Unrealistic profit expectations built into share prices in the late 1990s pointed to the strong probability of a bubble.

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The perils of ignoring bubbles
By Stephen Cecchetti

The writer is professor of economics at Ohio State University, and research associate at the National Bureau of Economic Research. He was director of research of the Federal Reserve Bank of New York between 1997 and 1999
Financial Times, September 3 2002 20:28

Central bankers keep inflation low, real growth high and the financial systems operating smoothly by using a combination of data and their own instincts to move before things get bad. Pre-emptive action, based on hunches and suspicions rather than hard facts, is in monetary policymakers' blood.

So why do Alan Greenspan and his colleagues at the Federal Reserve remain steadfast in their view that trying to head off asset price bubbles, with their obviously disastrous consequences, is not in their department?

Recent Japanese and American experiences have taught us important lessons about the way asset price bubbles distort economic and financial decisions. The costs are enormous.

Underfunding of Social Security, the US public pension system, has been a problem for years. And now we learn that the stock market boom and bust has created trouble for the private system. When high stock returns drive the accumulations in these private funds above the level that actuaries say they need, the sponsoring companies are allowed to make withdrawals. These "negative" pension contributions increase company profits, driving stock prices even higher.

i believe we are now paying the price for the Fed's failure to contemplate such action in the spring of 1997. If it had raised interest rates even only slightly - 0.5-0.75 of a percentage point, say - it would have put a modest brake on growth, reduced reported corporate profits and lowered estimates of future revenue growth. With a slower growth forecast, the stock price bubble might have been less extreme.

I cannot claim this would have worked and did not push for it at the time - but I certainly should have.

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Blaming the Fed
Financial Times editorial
September 2 2002

These are testing times for Alan Greenspan's legacy and he knows it.

On Friday, the Federal Reserve chairman issued a full-throated rebuttal of critics who hold him and his New Economy enthusiasm responsible for the equity bubble of the 1990s and the collapse that followed it.

In his speech to the annual Jackson Hole gathering of monetary muftis from around the world, Mr Greenspan said there was nothing the Fed could have done to stop asset prices inflating.

Tough talk and tightening margin requirements would have been ineffective, he said. Interest rate increases would only have worked if they had precipitated a general economic recession - killing the patient with the cure.

What is more, he claimed it was beyond the capacity of central bankers (or, by implication, anyone else) to say with metaphysical certainty that a bubble actually exists.

For good measure, he added that the productivity increases and the decline in the equity risk premium in the late 1990s probably justified some higher valuations, although he acknowledged that investors had pushed those valuations too high by 2000.

This robust apologia has merit. But there are at least two gaps in the defence. First, the Fed chairman may not have felt there was much point in talking down the market, but he may well have contributed to some of the explosion of exuberance in the late 1990s with his increasingly bullish observations.

Saturninity may not be a necessary requirement for the office, but surely Fed chiefs ought to err on the side of scepticism.

Second, does he really believe that a central bank can simply assert that it can never know for certain whether equity prices have reached an unsustainable level?

As he noted in his speech, to believe that equities were fairly valued when the Nasdaq topped out at 5,000 in 2000 would require one to accept a series of highly improbable propositions about long-term earnings and the equity risk premium.

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Taking asset prices seriously
By Samuel Brittan

Financial Times August 29 2002

The deputy governor of the Swedish central bank has suggested that policymakers should deal with the aftermath of an asset price boom but should not attempt to pre-empt it.

The critics argue, however, that this is not enough and action is needed to restrain an excessive rise in asset prices even if the inflation forecasts do not stray from the target range.

One of the more moderate statements of the case is made by Michael Bordo and Olivier Jeanne in a paper for the Centre for Economic Policy Research.

Inflation, they argue, is not the only danger from an unchecked boom in asset prices. Such a boom carries with it the risk of a bust that will destroy the value of securities held by financial institutions and thus induce "a collateral- induced credit crunch".

In their view the case for monetary restriction is greatest when the risk of a bust is large but when it can still be defused at relatively low cost. This means not delaying too long, as Alan Greenspan, chairman of the US Federal Reserve, did in the late 1990s.

For, as the boom gathers momentum, more severe monetary restriction is required to puncture it. Central banks may then find themselves in the paradoxical position of having to induce a recession now to forestall the risk of a more severe recession when the bubble bursts.

To the ordinary person it seems odd to talk of low inflation when property prices are going through the roof and newlyweds cannot get their foot on the housing ladder. As Harvey Cole, an economic consultant, says:

"For those who doubt that asset bubbles are dangerously inflationary, the proof is simple. Does anyone deny that their bursting must be expected to have serious deflationary consequences?"

Bordo and Jeanne cite as their two main examples of a big stock exchange-induced boom-bust cycle the US depression of 1929-33 and the Japanese one of 1986-1995.

They agree with Milton Friedman that the depth and length of the depression were due to banking panics, which led to a collapse in the money supply.

But the Wall Street crash contributed to this monetary contraction by reducing the value of bank loans and collateral. This led to a collapse of bank lending and the dumping of loans and securities, creating further asset price deflation.

They argue that if the Fed had followed the views of Benjamin Strong, its chairman, and defused the stock market boom in 1928, the outcome would have been very different; and they conjecture the same for Japan in the late 1980s.

The authors admit that assessing an asset price bubble is easier said than done. But is it, they ask quite reasonably, any more difficult than estimating the so-called output gap - how far output is from capacity levels - on which the interpretation of the current inflation target rules so often depends?

A Bank for International Settlements study

Asset prices, financial and monetary stability: exploring the nexus
BIS Working Papers No. 114 by Claudio Borio and Philip Lowe (July 2002)

argues, with an eloquence rare in such research papers, that it is not asset prices themselves that pose a threat to the stability of the financial system but the combination of rapid credit growth, rapid increases in asset prices and, sometimes, high levels of physical investment.

In any case, their charts show that for many countries there is a strong link between asset price growth and the growth of private credit.

The biggest policy problems relate to property prices. Bordo and Jeanne examine in detail experiences of Organisation of Economic Co-operation and Development countries since 1970. They find that out of 24 boom episodes in equity prices only three were followed by busts: Finland in 1988, Japan in 1989 and Spain in 1998.

On the other hand they diagnose 19 booms in property prices in which 10 were followed by busts (two of which occurred in the UK in 1973 and 1989).

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Alan Greenspan om "irrational exuberance"

Han talade hos Timbros kusin, The American Enterprise Institute ( Mest uppmärksammade blev orden om att ”Clearly, sustained (ihållande) low inflation implies less uncertainty about the future, and lower risk premiums imply higher prices of stocks and other earning assets. We can see that in the inverse (omvända) relationship exhibited by price/earnings ratios and the rate of inflation in the past.

But how do we know when irrational exuberance (övermått, översvallande, sprudlande) has unduly escalated (trappat upp) asset values (tillgångspriser), which then become subject to unexpected and prolonged contractions as they have in Japan over the past decade? ... Indeed, the sharp stock market break of 1987 had few negative consequences for the economy. But we should not underestimate or become complacent about the complexity of the interactions of asset markets and the economy. Thus, evaluating shifts in balance sheets generally, and in asset prices particularly, must be an integral part of the development of monetary policy.”

Hela hans tal - "The Challenge of Central Banking in a Democratic Society” - finns på

Rational Saturninity
John Makin
Economic Outlook August 2002

In December 1996 when Federal Reserve chairman Alan Greenspan used the term irrational exuberance in a speech at the American Enterprise Institute's annual Boyer Award dinner, he was referring to the bursting of the Japanese equity bubble six years earlier.

It is possible to stretch Greenspan's intention out of context to suggest that he was contemplating the possibility that irrational exuberance would grip U.S. equity markets.

However, at the time, earnings forecasts and interest rates, the inputs to the most basic model of equity valuation, a model employed by the Fed, indicated that the American stock market was slightly below fair value.

A little more than three years later, in March 2000, at the peak of the U.S. stock market bubble, the S&P 500 Index reached a level where it was 65 percent overvalued based on the usual criteria.

More strikingly, the extraordinary level of stocks early in 2000 was three standard deviations above where one would expect it to be given generous, and retrospectively questionable, earnings forecasts and interest rates.

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Why Greenspan allowed irrational exuberance
Gerard Baker, Financial Times, March 07 2002

In the summer of 1996, while Bill Clinton was surfing to re-election on a wave of equity market euphoria and spreading national prosperity, the mood inside the Federal Reserve in Washington was anxious.

Policymakers on the central bank's federal open market committee (FOMC) were concerned that the stock market had begun one of its periodic bouts of financial amnesia and was pushing equity valuations to levels that required increasingly far-fetched intellectual justifications.

By the end of the year, Mr Greenspan had seen enough. In December he delivered his famous "irrational exuberance" speech. The Fed, it seemed, was going to do what was necessary to stop the explosion of an asset bubble of the sort that had done so much harm to Japan's economy a few years earlier. Whether through verbal warnings, higher interest rates, or perhaps even more direct measures such as imposing margin requirements, the central bank looked ready to stop the party.

When the market quickly resumed its ascent after a brief decline following the chairman's remarks, the stage looked set for a battle between the Fed and exuberant investors. But then Mr Greenspan did an odd thing. To be precise, he did nothing. Despite his warnings, there was no concerted attempt to rein back equity prices over the next few years.

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Alan Greenspan om "irrational exuberance"

Fed minutes from meeting as pdf-file

Walking on troubled waters
Martin Wolf, FT, January 12, 2000

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There may be a knighthood for Greenspan in stage-managing a bubble, but there's nothing but pain for everyone if we tell lies to each other to keep it going.
By Bill Fleckenstein CNBC website 2002-08-19

The National Zoo in Washington houses pandas, cheetahs and assorted slithering creatures. Pretty soon, it may welcome another species: the scapegoat.

This one's trip will be brief, because home is currently the offices of Federal Reserve Chairman Alan Greenspan, just a few Metro stops away. But his fall from grace in the eyes of hurting investors will be immense, from once-infallible master of monetary policy to willful stoker of our stock-market bubble.

That the former view still reigns in Footsie Land can be seen by his recent elevation to knighthood. For charity's sake, let's hope the title is not callable.

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Alan Greenspan om "irrational exuberance"

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US ECONOMY: Walking on troubled waters
Martin Wolf, FT, January 12, 2000

Dear Mr Greenspan,

Congratulations on your renomination as chairman of the Federal Reserve. President Clinton’s decision to offer you a fourth term was a foregone conclusion. John McCain, the Republican presidential candidate, captured the mood when he suggested that you should be chairman not just for life, but even in the afterlife. Given these expectations your decision to continue is brave: the reputation of a man deemed capable of walking on water is more likely to sink than to float.

Worse, you are likely to be blamed for events beyond your control. Today people seem to believe that central bankers can create prosperity. Foolish monetary policy, in the form of deflation or high inflation, does great damage. But sensible policy neither ensures fast growth nor eliminates recessions. You know this, which only makes your decision to continue braver. So what are the chances that, at some point, even your hallowed feet will become wet?

To answer this question it is necessary to begin with the roots of the euphoria. For it is quite explicable: an extraordinarily large number of things have gone well for the US - and been done well in and by the US - since the early 1980s.

The Soviet Union collapsed. So, at much the same time, did the growth of the previously all-conquering Japanese economy - a failure underlined by the subsequent crisis in South Korea, the developing country that modelled itself most closely on Japan. Paul Volcker, your predecessor, crushed inflation, while you managed the aftermaths of the stock market crash of 1987, the property crash of the late 1980s and the financial turmoil of the summer and autumn of 1998.

The economy was deregulated in the 1980s and fiscal policy was subsequently tightened in the 1990s. Next month the economy will have achieved its longest expansion on record. It has suffered only one year of mildly negative growth since 1982. Over the past four years of extraordinary resurgence the economy has expanded at an average rate of just over 4 per cent. In November 1999 unemployment was down to 4.1 per cent of the labour force, while year-on-year consumer price inflation was far from low, but at least tolerable, at 3.2 per cent.

Productivity growth has also accelerated, as you have often pointed out. Many observers now judge the underlying growth rate of the economy to have risen from between 2 and 2½ per cent, to between 3 and 3½ per cent. This improvement in underlying growth is connected to US dominance over today’s technological revolutions. Technology, broadly defined, makes up 30 per cent of US stock market capitalisation - a value of over $3,000bn compared with a mere $350bn for the global mining industry.

Your country is on a remarkable winning streak, which does not mean it has avoided big mistakes. For believers in free enterprise US performance is immensely heartening. Yet the consequent euphoria can be overdone. Indeed, nothing is more likely. You yourself have hit on the reason in your notorious remark about ”irrational exuberance”.

Whatever the underlying improvements in real economic performance, the soaring stock market and rising real incomes are generating still bigger increases in real demand. This has, in turn, created large and ultimately unsustainable macro-economic imbalances. The big question is whether these will unwind smoothly.

Start with the stock market. Between its trough in 1981 and the end of last year the value of the S&P composite index, deflated by consumer prices, rose by 570 per cent. Yet the underlying real earnings of the companies (similarly deflated) included in the index rose by a mere 61 per cent. Meanwhile, the price-earnings ratio - the value placed on corporate earnings - quadrupled. This change in valuation is reflected in the jump in the ratio of the stock market’s value to gross domestic product, from a 60-year average of 50 per cent to today’s 150 per cent.

The worry must be that this soaring stock market threatens economic instability.

By extension the most powerful criticism of the Federal Reserve is that it is to blame for at least a part of the extraordinary rise.

An ingenious argument for this proposition is that the Fed’s interventions have lulled investors into a false sense of security. By indicating that you will slow or halt a fall you may well have persuaded investors to assume more risk than they would otherwise have done.

The ”equity risk premium” - the additional return on holding equities instead of bonds - has averaged around 7 percentage points over the long run. At today’s valuations this premium may be as low as 1 to 2 per cent. A forthcoming paper argues that this fall - a counterpart of the market’s rise - can be explained by the belief among investors that the Fed would seek to put a floor under the market about 25 per cent below its actual level.*

Since monetary policy cannot determine real prices in the long term, you can do no such thing. But if investors believe that you can, then that might be sufficient to explain their insouciance over present valuations. If so, your repeated expressions of concern about the impact of panic on markets and your demonstrated willingness to intervene during market crashes have been sufficient, argue the authors, to create a market ”bubble”.

The soaring stock market has contributed, in turn, to today’s symptoms of overheating: real domestic demand rising at around 5 per cent a year for the past four years, which is above almost anyone’s view of the long-run trend; a current account deficit of 3.7 per cent of GDP last year, which is forecast by the Organisation for Economic Co-operation and Development to rise to more than 4 per cent this year and next; and an unprecedented private sector net financial deficit.

Inflation remains under control, but this could merely reflect a temporary ability to combine a huge current account deficit with a strong dollar.

What the US needs to do, during your next term of office, is unwind the imbalances that have emerged in the present one, without precipitating a recession. You will have to slow the growth of domestic demand below that of potential output. You must also avoid a steep fall in the dollar and keep inflation under control. If you are to pull this off, you will need to avoid a destabilisingly large decline in the stock market. I am delighted that you will be the one attempting to pull this miracle off. If you cannot do so, nobody can. If you can, you do indeed walk on water.

Yours sincerely,

Martin Wolf

Marcus Miller, Paul Weller and Lei Zhang, Moral Hazard and the US Stock Market: Has Mr Greenspan Created a Bubble, December 1999, Warwick CSGR, forthcoming.

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