Calling Greenspan to Account

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Somehow Alan Greenspan has been able to escape blame for the mess we find our selves in today. But as Peter Goodman points out this morning, the fingerprints of Greenspan’s radical Ayn Rand libertarianism are all over the Credit Crisis.

Time and again, Mr. Greenspan — a revered figure affectionately nicknamed the Oracle — proclaimed that risks could be handled by the markets themselves.

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

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

Mr. Levitt said that Mr. Greenspan’s authority and grasp of global finance consistently persuaded less financially sophisticated lawmakers to follow his lead.

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

Levitt’s comments that the man who ruled our economy across four administrations had “a fundamental disdain for government”, sums up the Reagan/ Milton Friedman / Ayn Rand legacy of the last 30 years. Perhaps restoring that trust in government may be one of the biggest tasks facing Obama in the next four years.

0 thoughts on “Calling Greenspan to Account”

  1. douglas newhouse

    Jon–it also shows that our leaders don’t understand how the financial economy works and therefore depend on others for guidence–this is a huge problem and was evident in the last debate as I thought that niether Obama or McCain had a clue as to the issues and solutions to our current mess— for all the grief they have been given Paulson and Bernake are well suited for their jobs–not that they are perfect

  2. Jon Taplin

    Doug- I agree. When the average Congressman has no way to even question Greenspan on Derivatives, we’re in trouble. I do think Obama has a very good grasp of the current problem, but a debate is no time to get into an economics lesson.

  3. douglas newhouse

    True–I think that in general he is just trying not to lose at this point and not really telling us at all what he really thinks— but congress and the senate is filled with lay people who really don’t understand any of this–

  4. Seth

    I’ll always remember Greenspan for unwittingly calling the bottom in mortgage rates by boosting the idea that we all should be using ARMs instead. Of course Greenspan’s fashionably simplistic ‘burn-the-rulebooks’ attitude toward governance did a lot more damage than this embarrassingly ill-timed bit of advice.

    Benjamin Wallace-Wells deserves props for this article from April 2004 in which he commented on Greenspan’s bad advice to homeowners and anticipated some of our current troubles.

  5. thinkingdeeper

    I’m sure there are many more people than just Greenspan involved in this ‘manufactured’ crisis. It’s not as if Washington didn’t know this was going to happen in 2005, and perhaps alot earlier… if claims of ‘financial warfare’ are to be believed… look at this transcript from Tuesday…

    House Oversight Committee Hearing on AIG – 7th Oct 2008.
    Excerpt between Rep. Peter Welsh (Democrat, Vermont) and Mr Lynn Turner (Chief Accountant, SEC. 1998 –2001.)

    Rep. Peter Welsh: Mr Turner… I think you said that the SEC Office of Risk Management was reduced to a staff, did you say of… ‘one’?

    Lynn Turner: Yeah when that gentleman would go home at night he could turn the lights out. In February of this year we had gotten down to just one person at the SEC responsible for identifying the risk at all the institutions

    Rep. Peter Welsh: So that included the 62 trillion dollar credit default swap…?

    Lynn Turner: That’s correct.

    Rep. Peter Welsh: And how did he do..?

    Lynn Turner: Well I suppose he got the lights turned out, but he didn’t get the problems taken care of… [ ] …Yeah in all fairness to the SEC… the staff over there that I’ve dealt with over the years have been excellent. But when you only have one person, there’s no way on gods green earth that anyone, Chairman Cox, or anyone else, could even imagine that this person could do the job. When you cut it down to ‘one’, you know what your doing, you know that your basically saying were not gonna do the job.

    Rep. Peter Welsh: Yes… was there a systematic depopulating of the regulatory force so that it was impossible actually for regulation to occur if you have one person in that office? …and then I understand that 146 people were cut from the enforcement division of the SEC, is that what you also testified to?

    Lynn Turner: Yes… Yeah, I think there has been a systematic gutting, or whatever you want to call it, of the agency and it’s capability through cutting back of staff.

  6. Seth

    Warren Buffett’s support for Obama is very significant. In his Berkshire Hathaway Annual Report for 2003 (p15), he described some of the headaches associated with unwinding derivatives positions at a subsidiary called Gen Re Securities.

    Gen Re Securities had a case of the same disease that bankrupted AIG. Buffett understands the problem quite well and will certainly give Obama and his other advisors the benefit of his experience.

    Here’s the key passage:

    A far less pleasant unwinding operation is taking place at Gen Re Securities, the trading and
    derivatives operation we inherited when we purchased General Reinsurance.
    When we began to liquidate Gen Re Securities in early 2002, it had 23,218 outstanding tickets
    with 884 counterparties (some having names I couldn’t pronounce, much less
    creditworthiness I could evaluate). Since then, the unit’s managers have been skillful and
    diligent in unwinding positions. Yet, at yearend – nearly two years later – we still had 7,580
    tickets outstanding with 453 counterparties. (As the country song laments, “How can I miss
    you if you won’t go away?”)
    The shrinking of this business has been costly. We’ve had pre-tax losses of $173 million in
    2002 and $99 million in 2003. These losses, it should be noted, came from a portfolio of
    contracts that – in full compliance with GAAP – had been regularly marked-to-market with
    standard allowances for future credit-loss and administrative costs. Moreover, our liquidation
    has taken place both in a benign market – we’ve had no credit losses of significance – and in
    an orderly manner. This is just the opposite of what might be expected if a financial crisis
    forced a number of derivatives dealers to cease operations simultaneously.
    If our derivatives experience – and the Freddie Mac shenanigans of mind-blowing size and
    audacity that were revealed last year – makes you suspicious of accounting in this arena,
    consider yourself wised up. No matter how financially sophisticated you are, you can’t
    possibly learn from reading the disclosure documents of a derivatives-intensive company
    what risks lurk in its positions. Indeed, the more you know about derivatives, the less you
    will feel you can learn from the disclosures normally proffered you. In Darwin’s words,
    “Ignorance more frequently begets confidence than does knowledge.”

    Emphasis added.

  7. pond

    So far, Alan Greenspan has escaped blame? Jon, where have you been?

    I’ve been seeing harsh and strident criticisms of the Chairman online since last fall. The reconsideration of Chairman Greenspan is well under way. His reputation will not survive the autopsy of the last 20 years.

    In short, beginning in 1987, the revisionist legend goes, Chairman Greenspan moved to prevent a crash from hurting the economy, by inflating the currency and dropping interest rates.

    From then on, it was one bubble after another, all pumped up by the Fed under Chairman Greenspan.

    In 2002, the Fed minutes reveal that Chairman Greenspan was intently worried — about deflation. He thus dropped interest rates to below real inflation rates. Free money for all!

    He also vociferously defended the ‘creative destruction’ of all the new ‘innovations’ in financial markets, and famously denied that the housing bubble was any such thing: ‘At most, all I can see is a little froth in local markets,’ he testified before Congress. (I believe that was in 2004, although the Chairman testifies twice yearly to Congress.)

    When the dot-com bubble took the American economy into recession, the Chairman went hard and fast to pump a bubble to replace it.

    Maybe you haven’t seen these damning articles, because you don’t read those sites. Most of them take a dim view of the very institution of the Federal Reserve, a unique institution under which a collection of private banks, some of them not even American, act as a quasi-official national bank, with broad powers (and a conflicting mission of both reducing unemployment and stabilizing the currency).

  9. Seth

    Warren Buffett’s support for Obama is very significant. In his Berkshire Hathaway Annual Report for 2003 (p15), he described some of the headaches associated with unwinding derivatives positions at a subsidiary called Gen Re Securities.

    Gen Re Securities had a case of the same disease that bankrupted AIG. Buffett understands the problem quite well and will certainly give Obama and his other advisors the benefit of his experience. Phil Gramm’s advice to McCain would, by contrast, be like Polonium poisoning for the rest of us.

    Here’s the key passage:

    A far less pleasant unwinding operation is taking place at Gen Re Securities, the trading and
    derivatives operation we inherited when we purchased General Reinsurance.
    When we began to liquidate Gen Re Securities in early 2002, it had 23,218 outstanding tickets
    with 884 counterparties (some having names I couldn’t pronounce, much less
    creditworthiness I could evaluate). Since then, the unit’s managers have been skillful and
    diligent in unwinding positions. Yet, at yearend – nearly two years later – we still had 7,580
    tickets outstanding with 453 counterparties. (As the country song laments, “How can I miss
    you if you won’t go away?”)
    The shrinking of this business has been costly. We’ve had pre-tax losses of $173 million in
    2002 and $99 million in 2003. These losses, it should be noted, came from a portfolio of
    contracts that – in full compliance with GAAP – had been regularly marked-to-market with
    standard allowances for future credit-loss and administrative costs. Moreover, our liquidation
    has taken place both in a benign market – we’ve had no credit losses of significance – and in
    an orderly manner. This is just the opposite of what might be expected if a financial crisis
    forced a number of derivatives dealers to cease operations simultaneously.
    If our derivatives experience – and the Freddie Mac shenanigans of mind-blowing size and
    audacity that were revealed last year – makes you suspicious of accounting in this arena,
    consider yourself wised up. No matter how financially sophisticated you are, you can’t
    possibly learn from reading the disclosure documents of a derivatives-intensive company
    what risks lurk in its positions. Indeed, the more you know about derivatives, the less you
    will feel you can learn from the disclosures normally proffered you. In Darwin’s words,
    “Ignorance more frequently begets confidence than does knowledge.”

  10. Dan

    The Dow is currently down -655 for the day. This is it, guys. We’re in a depression.

    I’ve been taking steps to ensure that my wife and I don’t starve over the next two to three years. I’m going to accelerate those steps now, while there’s still money in my bank account, before the banks fail and everybody except for Dick Cheney and his Band of Magical Friends are dead flat broke.

    I might also extend the horizon to more like five or six years.

    Update five minutes late: now it’s down only -470. No wait, now it’s at -512.

    This is insanity.

  11. billybob

    Dan,

    Hold on a second…

    Personally, I think you are very smart to hedge your bets and prepare for the worst. Just don’t panic yet. Walk calmly towards the exits.

    My diversified portfolio is down 28% in this crash. Naturally, this doesn’t make me very happy (in fact it scares the crap out of me), but it is a far cry from a depression. When my planner modeled my 70/30 (stock/bond) holdings, his analysis showed that the worst case loss scenario (from ’26-’07) , was 41%. It seems I still have a ways to go yet. :-( On the other hand, stocks are cheap right now. They might even get a little cheaper before the dust settles. But yeah, I’ve also got some metal stashed in case of Armageddon. Not only that, but I’ve been mulling the idea of converting a shed into a chicken coop and ripping up a deck to plant vegetables if need be. My family can live on beans, rice, and eggs for a long, long time if necessary.

    It seems that we are probably moving into a severe, world-wide recession. We need a huge (70-90%) market sell-off, and a radically high unemployment rate before we can call this a depression. Will we get there? Who knows.

    I hope you’re VERY wrong on this one.

  12. douglas newhouse

    what we have is massive panic selling—my guess is that this will be one of the best buying opportunities any of us will ever see—

  14. Craig atx

    Trying to assign fault in the middle of a crises does not seem very wise. Seems like more of a symptom of 24/7 news cycles…need the answer now. This is a massive issue that needs a thorough series of “whys” being asked.

    Some items that are not being talked about:

    Fraudulent tranche ratings on MBS; ratings agencies looking the other way to keep the bond business coming; hustlers looking to make up for their dot-com losses; American culture chasing every get-rich fad (flipping houses), etc.

    I just don’t think that we can identify a single source, but I hope that we become patient enough to learn from our mistakes and put better practices in place.

  16. Alex Bowles

    That photo sequence is like the final act in a thriller when you suddenly discover that the real killer has been hiding in plain sight, all along.

  17. Alex Bowles

    Oh yeah, and it’s always the old dude at the top of the pyramid who everyone thought was such a good guy.

  19. Dan

    OK so this morning the market plunged 650 points in a matter of minutes and then shot right back up. And as the Dow crossed into positive territory, the traders cheered–actually a better word would be screamed–with joy as it did so.

    Pure emotion-driven market.

  20. Dan

    Or one almost wonders if there are players manipulating the market to make steep plunges so that they can snap up some deals.

  22. Greg G

    So far, I’ve found Nouriel Roubini’s work on the financial crisis to be the most helpful.

    His prescient Feb 2008 piece The Rising Risk of a Systemic Financial Meltdown: The Twelve Steps to Financial Disaster

    And his current piece where he’s saying that it’s Depression, 10 years, L shaped unless very radical things are done very quickly – that’s what I’m taking my cues from. I don’t see very radical things being done in a timely fashion.

    Even those G-n people meeting today don’t know whether they’re supposed to be -7 or -8 … since they’re having that much trouble with single digits I don’t hold out a lot of hope for them working through the trillions.

    http://www.rgemonitor.com/blog/roubini/242290
    http://www.rgemonitor.com/blog/roubini/253973/the_world_is_at_severe_risk_of_a_global_systemic_financial_meltdown_and_a_severe_global_depression

  23. Dan

    Greg G, that site looks very interesting but is annoying in its refusal to say how much a subscription costs; they want you to sign up for a free trial. Can you enlighten me?

  24. Greg G

    I did the free trial and haven’t had telemarketers call… here’s what he had to say yesterday:

    The crisis was caused by the largest leveraged asset bubble and credit bubble in the history of humanity were excessive leveraging and bubbles were not limited to housing in the US but also to housing in many other countries and excessive borrowing by financial institutions and some segments of the corporate sector and of the public sector in many and different economies: an housing bubble, a mortgage bubble, an equity bubble, a bond bubble, a credit bubble, a commodity bubble, a private equity bubble, a hedge funds bubble are all now bursting at once in the biggest real sector and financial sector deleveraging since the Great Depression.

    At this point the recession train has left the station; the financial and banking crisis train has left the station. The delusion that the US and advanced economies contraction would be short and shallow – a V-shaped six month recession – has been replaced by the certainty that this will be a long and protracted U-shaped recession that may last at least two years in the US and close to two years in most of the rest of the world. And given the rising risk of a global systemic financial meltdown the probability that the outcome could become a decade long L-shaped recession – like the one experienced by Japan after the bursting of its real estate and equity bubble – cannot be ruled out.

    His current recommendations and conclusion:

    - another rapid round of policy rate cuts of the order of at least 150 basis points on average globally;

    - a temporary blanket guarantee of all deposits while a triage between insolvent financial institutions that need to be shut down and distressed but solvent institutions that need to be partially nationalized with injections of public capital is made;

    - a rapid reduction of the debt burden of insolvent households preceded by a temporary freeze on all foreclosures;

    - massive and unlimited provision of liquidity to solvent financial institutions;

    - public provision of credit to the solvent parts of the corporate sector to avoid a short-term debt refinancing crisis for solvent but illiquid corporations and small businesses;

    - a massive direct government fiscal stimulus packages that includes public works, infrastructure spending, unemployment benefits, tax rebates to lower income households and provision of grants to strapped and crunched state and local government;

    - a rapid resolution of the banking problems via triage, public recapitalization of financial institutions and reduction of the debt burden of distressed households and borrowers;

    - an agreement between lender and creditor countries running current account surpluses and borrowing and debtor countries running current account deficits to maintain an orderly financing of deficits and a recycling of the surpluses of creditors to avoid a disorderly adjustment of such imbalances.

    At this point anything short of these radical and coordinated actions may lead to a market crash, a global systemic financial meltdown and to a global depression. At this stage central banks that are usually supposed to be the “lenders of last resort” need to become the “lenders of first and only resort” as, under conditions of panic and total loss of confidence, no one in the private sector is lending to anyone else since counterparty risk is extreme. And fiscal authorities that usually are spenders and insurers of last resort need to temporarily become the spenders and insurers of first resort. The fiscal costs of these actions will be large but the economic and fiscal costs of inaction would be of a much larger and severe magnitude. Thus, the time to act is now as all the policy officials of the world are meeting this weekend in Washington at the IMF and World Bank annual meetings.

  25. Seth

    Roubini’s “free trial” has been running for months now. Reading most of the content seems to be free once you register.

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