Greenspan is going down in history to be the man who created the biggest financial bubble in the history of mankind: housing/mortgage credit bubble, which (will) cause the biggest fall in $US, the yet-to-be legacy of Bernanke. I just want to add my comments to this article “Greenspan legacy questioned amid subprime crisis”.
“It is extremely rare to uncover fraud other than through whistle-blowers,” he said. “You don’t get at it through internal audits, you don’t get it through outside audits and you certainly don’t get it through bank examinations.”
Every mortgage officer knows what is called a “liar’s loan” back in 2005, if not earlier. It simply goes against the most basic common sense on why wouldn’t someone spends some 20 minutes to document their income/asset, and get a better (1/8 to 1/4) interest rate. For that additional interest income of 1/8 to 1/4 percentage, you’re almost guaranteed to have a fraudulent loan with 99% of the probability. Common sense, Greenspan! Since you are a smart man, I can only conclude that you’re highly negliegent and irresponsible.
A simulation by Stanford University professor John Taylor suggested that much of the housing boom could have been avoided if the Fed hadn’t cut rates so deeply and had raised them back up more quickly.
I think the result of the simulation should be obvious. Greenspan was afraid of dislocating bond markets. For that specific reason, I agree that rates should be raised up gradually. But he should have done it at the double speed, or much earlier instead of leaving the interest rate at 1% for about 1 year.
“There is a growing body of thinking in central banking that one should not let these bubbles run and allow them to burst,” he said. “They should lean against them.”
Greenspan disagrees with such a strategy. “There is no evidence that it works other than in computer models,” the former Fed chief said. He noted that the stock market merely leveled off when the Fed doubled interest rates to 6 percent in 1994-95, then resumed its climb.
The rising of stock markets had nothing to do with stock bubbles. Stock markets were rising in 1994-5 because of increase in globalization and internet and computer technologies, which translated into lower costs for big corporate companies. Greenspan’s example is just lame.
Greenspan maintained that the housing bubble was inflated not by the Fed’s monetary policy but by a global savings glut that held down long-term interest rates worldwide. As the Fed raised its benchmark rate from 1 percent in 2004 to 4.5 percent in 2006, when Greenspan stepped down, the yield on the Treasury’s 10-year note actually fell.
And the explanation from Greenspan just gets more far-fetched. Trying to confuse people by reversing the causal sequence between consequences and causes only works for people who don’t do any thinking. Why is there a global savings glut? Because US dollar dropped so much in interest rate from 6.5% to 1.0%, which caused a weak $US dollar. To compensate the currency exchange effects from that, global central banks simply had to competitively devalued their currencies, which caused a global saving glut in the longer term bond markets. Since the over-night interest rate was paying close to nothing, the only way for savers to get any decent return was to move out in the bond duration. Coupled with some time lag between foreign policies and US policies, the saving glut certainly won’t disappear overnight, but rather with 3 to 12 months out in time horizon.
Sorry, Greenspan. I must attribute a lot of your “personal success” to wage/price arbitrage in globalization and the biggest ramping up in computers and communication technologies (thru internet). It goes similarly for the success in Clinton’s era. But at least, he gets a lot more respect from me.