Economic history wrapped around an ebullient personality
Reviewed in the United States 🇺🇸 on October 15, 2016
Alan Greenspan was far from ebullient in his public appearances. He’s best remembered for his dull demeanor and mumbling prognostications in Congressional hearings. It was his ebullient mind that drove him to prominence, having been shaped by association with the most stimulating economic thinkers of the mid-20th Century, including Arthur Burns, Milton Friedman, and his close friend Ayn Rand.
Having earned much of my livelihood as a stock market investor since the early ‘70s, I remember the economic issues that Mr. Greenspan advised presidents and congresses on, and his epic chairing of the Federal Reserve from 1987 to 2006. Author Sebastian Mallaby encapsulates the essence of Mr. Greenspan’s glories and controversies as one of the nation’s chief economists:
on August 11, 1987, Alan Greenspan was sworn in as Federal Reserve chairman. For the next eighteen and a half years [he] became a global superstar, revered by economists, adored by investors, consulted by leaders from Beijing to Frankfurt. When he held forth at the regular gatherings of central bank chiefs in Basel, you could hear a pin drop; the distinguished figures at the table, titans in their own terrains, took notes with the eagerness of undergraduates. Through quiet force of intellect, Greenspan seemed to control the orchestra of the American economy with the finesse of a master conductor; he was the “Maestro,” as an incautious biographer suggested…by the end of his tenure, Greenspan had achieved exalted stature …he received the Presidential Medal of Freedom, a British knighthood, and the French Legion of Honor…
In the years after Wall Street’s (2008) meltdown, the reassuring maestro became a popular villain, blamed for inflating a monstrous bubble through heedless incompetence or wild laissez-faire ideology….The financial crisis is indeed key to judging Greenspan’s legacy. He cannot be blameless; the cost of the implosion was so great that more should have been done to avert or at least mitigate it. Yet although criticism is essential, it is worth stating something clearly at the start: much of the postcrisis commentary has reduced Greenspan to a caricature.
Mallaby relates the interesting aspects of Mr. Greenspan’s personal non-economic life, starting with his first gig as a shy sax player at age 18 in a renowned jazz band that toured the South and East. Of course, the main story is about Mr. Greenspan the economic guru, starting with how he was molded as a young man by the ideological battles of the 20th Century --- from the big government Keynesian economics of FDR’s New Deal to Milton Freidman’s and Ayn Rand’s economic libertarianism.
Mallaby explains Mr. Greenspan’s own contribution to economic theory, which emphasizes finance as being at least as important to making business decisions as traditional supply vs. demand economics. According to Greenspan, investors do not think in terms of supply and demand. Investors primarily make decisions on whether to invest in the production of new goods and services on a financial basis. If an investor calculates that he/she can build a new production facility at a cost of $100 million, while selling stock to the public for $150 million, the facility will be built because the investor will reap an immediate profit of $50 million by selling the stock.
Since stock prices largely depend upon interest rates, Mr. Greenspan discerned that the Federal Reserve can play a decisive role in keeping the economy on an even keel by raising and lowering interest rates in order to encourage more investment when the economy is slow and less when it becomes “overheated” with excessive financial speculations that can’t be sustained.
Mallaby explains the essence of Mr. Greenspan’s character as a reconciler of economic contradictions. He was a laissez-faire Libertarian who advocated for the gold standard and even for privately-issued money. He despised government intervention in the economy. Yet, he became a renowned Chairman of the Federal Reserve from 1987 to 2006 --- an entity he once called a “historic mistake” --- who used the government’s power to command the economy by printing money and controlling interest rates.
In retrospect, after the economy’s near-death experience in 2008, Mr. Greenspan looks less like a maestro and more like a passive observer who rode the coattails of a “golden era” of prosperity when the USA prospered by remaking most of the world, including the former Communist Block, into our capitalist image. Curiously, as soon we won the Cold War and emerged as the world’s lone “hyperpower” our economy stalled and begin a tailspin.
Therein lies the provocative aspect of this book. To understand it fully, you’ll need an economic memory going back to the early 1970s. In those days inflation was the great economic bugaboo. Prices of everything from groceries to houses rose visibly year-over-year, and sometimes month-by-month. By the end of the 70’s inflation had spiraled to near 10%. The Fed, true to its inflation-fighting mission, pushed interest rates to near 20%, destroying the housing market and the ability of business investors to earn a return on capital. The economy descended into the “stagflation” downdraft of simultaneous high inflation and high unemployment. The theory that high interest rates kill inflation was debunked. High interest rates killed the economy, while leaving inflation unchecked.
The dismal economy persuaded voters to elect Conservative Republican Ronald Reagan in 1980. In short order inflation diminished and economic growth resumed. Greenspan was a member of Reagan’s Economic Policy Board.
Opinions differed then as now as to why inflation was so virulent in the 1970s, and why it suddenly ceased as soon as Reagan became president. Greenspan and other economists believed that raising interest rates killed inflation, but perhaps it was really the Reagan-inspired tax cuts and deregulation of the energy and other sectors of the economy that did it. Reagan’s tax cuts lowered the cost of capital by perhaps 30%, so that was bound to have tamped down inflation, regardless of anything the Fed did. Greenspan cut his teeth as an inflation-fighter and always saw killing inflation as his primary job, even until his final year in 2006 when inflation had long ago been dead and buried.
The economy then had its near-death experience in 2008. Today’s post-2008 economic problems differ from the inflation of the 1970s. Today’s problems are mainly deflationary, i.e. wages and prices that tend to fall rather than rise, and tepid economic growth that does not pick up even when interest rates fall to zero (in fact some countries now have NEGATIVE interest rates, and still their economies will not grow).
The book made me wonder if we’re misunderstanding the root causes of slow growth and deflation today in the same way we misunderstood the inflation of the 1970s. In the 70’s economists like Greenspan believed that the Fed’s manipulation of interest rates controlled the rates of inflation and economic growth, when perhaps they really didn’t have much to do with it. Today’s economists are astounded that low interest rates no longer produce significant economic growth.
Could there be other factors besides interest rates that are slowing our economy? Could one of these factors be the emergence of the Global Economy that we did so much to create? After we won the Cold War, our former Commie adversaries like China embraced capitalism. Left-of-center neighbors like Mexico brought Milton Friedman’s acolytes into its government and became pro-business. Our American companies began transferring their employees’ jobs to these newly-minted capitalist countries where much lower costs of labor enabled goods and services to be produced overseas then imported into the USA.
There is also the massive dis-employment of the labor force via automation and merger and acquisitions. And there is now a corporate culture that views layoffs of personnel as a first resort in order to increase business profits instead of as a last resort to be used only in extreme circumstances such as to forestall bankruptcy.
Whatever the reasons ---- perhaps a combination of all --- about 1/3rd of the potential labor force is idled, and much of the rest is under-employed. The economy can’t grow very much with that many people not working. If that is the case, then lowering interest rates cannot have an impact on the economy, because there are fewer people left in the USA who have steady employment at wages that would permit them to borrow money at any interest rate, even if it is zero.
It does seem that Greenspan was depending upon low interest rates to stimulate an economy that was sick because of structural unemployment. His low interest rates of the early 2000’s stimulated a speculative boom, not an employment boom. It encouraged people who had lost their jobs to subsist by borrowing against their home equity. It encouraged banks to package those home equity loans into risky, highly-levered mortgage derivatives, that were designed to fail when a small number of loans went sour, as was inevitable in a jobs-scarce economy. The speculative boom went bust, the banks failed, and we are still to this day limping along with a slow-growth economy. We may be waiting for a new generation of economists to figure out the way the economic world works in the Globalist 21st Century.
Readers whose economic memories go back to the early 1970’s will relive Greenspan’s career and much of the economic and political life of the nation. The amount of detail is immense, but I found myself skimming only intermittently. I was compelled to take more time reading it, and understanding it, than I had planned.
Just as Mallaby begins the book with an excellent introduction to Mr. Greenspan's life, he ends it with an excellent judgment of his legacy:
“All this being said, how should we judge Greenspan? As an observer, analyst, and forecaster, he was formidable……… As a doer rather than an observer, however, Greenspan’s record was not so distinguished.”
I came away with much more admiration for Mr. Greenspan than I previously had, but also with an understanding that the economy is so incredibly complex, that much of its function remained beyond even his understanding, or that of any other single human being.
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