Greenspan era ends with praise, some blame on bubble

Alan Greenspan will leave office at the end of this month having orchestrated U.S. monetary policy during one of the longest periods of rapid economic growth and low inflation in U.S. history.

During his 18 years as Federal Reserve chairman, Greenspan, 79, presided over an era of sustained prosperity that included a 30-year low in the unemployment rate and a stock-market boom so extraordinary he felt obliged to warn investors against "irrational exuberance."

While some critics have lambasted Greenspan for helping to create a "speculative bubble" in stock prices that later burst and pushed the economy into a recession, many economists argue that he ran the Fed just about as well as it could be run.

"He was exactly the right man for the job at the right time," said Lyle Gramley, a Fed governor from 1980 to 1985. "It's hard to give him a grade of less than A-plus. He's been a phenomenal chairman."

Markets around the globe responded to Greenspan's televised speeches and appearances before Congress. Traders, investors and lawmakers would hang on every word, searching for signals in his choice of language and even in his tone of voice.

"The markets are going to have to get used to a more interesting and varied message coming out of various Fed officials," Ethan Harris, chief economist at Lehman Brothers in New York, said before President Bush nominated Ben Bernanke on Oct. 24 to succeed Greenspan. "Bernanke will not dominate the way Alan Greenspan did."

Greenspan endorsed Bush's choice of his successor, saying in a statement that Bernanke comes "with superb academic credentials and important insights into the ways our economy functions."

To some, Greenspan's biggest achievement — and his most controversial — was his recognition before most economists of a fundamental change in the U.S. economy. As growth accelerated in the mid-1990s, many economists wanted the Fed to raise interest rates to keep prices from soaring. Greenspan let the boom continue.

"He has a legitimate claim to being the greatest central banker who ever lived," Princeton University economist Alan Blinder, who spent 19 months as the Fed's No. 2 in the mid-1990s, wrote in a paper presented in August at a Fed conference devoted to the "Greenspan Era."

Building Fed credibility

One of Greenspan's greatest legacies was his success in building credibility for the Fed as an inflation-fighter — "a major reason that long-term interest rates remained low as the economy was expanding during Greenspan's final year in office," said Allan Meltzer, a Carnegie Mellon University economics professor and the author of a 2002 book on the early history of the Federal Reserve.

"What he's shown is that you can have full employment and low inflation at the same time," Meltzer said. "The Keynesian school didn't believe that, but Greenspan showed that it could be done."

Greenspan moved aggressively when the stock-market bubble did collapse, cutting the central bank's overnight lending rate 13 times between January 2000 and June 2003 to a 45-year low of 1 percent. The economy went through a mild yet stubborn recession.

While Greenspan went out of his way to support the fiscal policies of presidents of both parties, he risked Bush's ire in 2003 by publicly opposing Bush's plan for another big tax cut, saying it would bloat the budget deficit.

Greenspan was known for his complex phraseology and occasionally tortured explanations. His surprise warning against "irrational exuberance" among investors in December 1996 temporarily roiled markets, which then shot even higher. The phrase became his most famous addition to the national lexicon.

Earlier this year, he gave the financial markets another buzzword when he told Congress that the decline in long-term interest rates in the previous year, which came as the Fed raised short-term rates, was a "conundrum."

Baseball, music

Greenspan was born in the Washington Heights section of Manhattan in 1926. His father, Herbert, was a stockbroker who had been an enthusiast of President Franklin D. Roosevelt's New Deal and later became disenchanted with it. His mother, Rose, was a housewife. They divorced while Greenspan was in high school.

"I was interested in baseball and only baseball" as a youth, Greenspan told students in June 2003 at the John Philip Sousa Middle School in Washington, D.C. This gave him a reason for learning mathematics, he said. "I got very interested in batting averages and pitching averages, and all of the numbers that were involved in understanding baseball."

When he realized he couldn't "hit a curve ball very well," he told the students, he turned to music. Greenspan studied at the Juilliard School of Music in New York. After two years he left to play clarinet and tenor saxophone with the Henry Jerome swing band. Greenspan told the students he played alongside jazz saxophonist Stan Getz and earned $6 a week.

Getz "was instrumental in my deciding that music wasn't going to be my profession either," Greenspan said, "because I had to sit next to that guy and listen to what in the world he was doing, and I'm saying, 'How in the world does he do it?' "

Switch to economics

Greenspan began to check out books on finance and economics from public libraries and read them between performances, he said. After a year, he quit the band and enrolled at New York University to study business and economics.

In graduate school in economics at Columbia University, Greenspan studied under Arthur Burns, a professor and student of the business cycle who later became President Nixon's chief economic adviser. Burns served as chairman of the Fed from 1970 through 1978. He was one of Greenspan's mentors.

In 1952, Greenspan was introduced to Ayn Rand, the libertarian novelist and philosopher who espoused laissez-faire capitalism. Almost immediately he became part of her inner circle of disciples, meeting regularly in her Manhattan apartment.

A year later, after working as a steel-industry analyst, he set up a consulting firm in New York with a bond trader named William Townsend. When Townsend died in 1958, Greenspan became sole owner of the firm, known as Townsend-Greenspan, and launched an economic-forecasting career that made him a millionaire.

Late in earning his academic credentials — he didn't receive his doctorate from New York University until 1977 at the age of 51 — Greenspan, nonetheless, enjoyed wide recognition as a thinker for the way he analyzed the economy.

Overlooked data

Greenspan based his approach on instinct and intuition as much as on economic models and projections. He built forecasts on microeconomic data that colleagues overlooked, such as weekly statistics on freight-car loadings and the numbers of containers and boxes produced. And he carried his methods over to the Fed.

"He just loved it — that was his favorite thing, doing the calculations himself," said Alice Rivlin, a Brookings Institution economist who served as vice chairman of the Fed's board of governors in the late 1990s.

In 1968, Greenspan made his entry into politics, becoming director of domestic-policy research for Republican presidential candidate Richard Nixon. When Nixon won, Greenspan served on the transition team, working on budget and trade issues. He declined a job in Washington, D.C., and remained an informal adviser.

In 1974, Nixon tapped Greenspan to be chairman of the Council of Economic Advisers, a post he held under President Ford after Nixon resigned. Some of Greenspan's biggest gaffes came in that position.

In response to an assertion that welfare mothers had suffered the most in the mid-1970s recession, Greenspan argued that stockbrokers had suffered the biggest loss of income in percentage terms. While the statistic was accurate, he and the White House were pilloried.

Greenspan eventually became adept at maneuvering in official D.C. and over time came to be revered by politicians and economists of both parties.

Republican President Reagan named him Fed chairman in 1987, and he was reappointed by President George H.W. Bush, a Republican, the father of the current U.S. president, and by President Clinton, a Democrat.

"He maintained this foot in both camps," said Lawrence Meyer, who served on the Fed's board of governors from 1996 to 2002. "No one could criticize the Fed for being oblivious to their point of view."

There was one exception: The elder President Bush blamed Greenspan for not cutting interest rates rapidly enough at the start of the 1991 recession, a policy the White House said contributed to Bush's losing his re-election campaign.

Bush later delayed Greenspan's reappointment, and White House officials said it was to teach the Fed chairman a lesson. The two remained on the outs for years. Nevertheless, in 2003, the current President Bush nominated Greenspan for a fifth term as Fed chairman.

The Greenspan influence

Greenspan answered questions skillfully. At hearings, lawmakers all but stumbled over one another to get him to endorse their pet theories and proposals.

"The Greenspan era will be known not only for the monetary policy it conducted, but for the disproportionate influence that one person had on policy," said Meyer, now at the Center for Strategic and International Studies. "We're not likely to have another chairman anytime soon who will exercise that degree" of influence over Fed policy.

When he took office, there were serious questions about whether Greenspan could fill the shoes of his predecessor, Paul Volcker, who had won plaudits for defeating the inflation that plagued the U.S. during the 1970s and early 1980s.

Volcker had taken the Fed's reins when consumer prices were rising at the rate of 14.8 percent a year. Tightening credit, he plunged the economy into the deepest recession since 1946. By the time he left office, inflation was 4.4 percent.

Greenspan helped halve the rise in prices. Between 1997 and 2002, consumer prices increased by an average of 2.2 percent. In 1994, after holding down interest rates to help foster a recovery from the 1990-91 recession, he pushed the Fed to raise rates to pre-empt any revival of inflation.

He also steered the economy through a series of crises, pumping out money to help the economy rebound from a stock-market crash in 1987. He put off a planned rise in interest rates after the Asian financial collapse of 1997. He cut rates after the Russian debt default in 1998. And he helped work out a bailout plan after the failure of a big hedge fund, Long-Term Capital Management, that same year.

Greenspan did away with some of the Fed's secrecy. He insisted that the central bank immediately disclose changes in interest-rate targets and the reasons for any policy change. He also began signaling policy changes in advance so financial markets would not be surprised.

Greenspan noticed the pickup in U.S. productivity as early as March 1994, long before any other economist began to detect it. He did so in his characteristic way, looking at narrow series of data, in this case commodity prices, wages and credit demand, and asking why they didn't conform to the usual pattern of an expanding economy. Commodity prices were moving up while overall inflation wasn't.

"We have an economy that doesn't look like anything that we have experienced in the past 30 years," Greenspan told Fed policymakers, according to transcripts of a meeting in 1994. "It may very well be that we are getting extraordinary productivity increases that are keeping unit labor costs down."

Some economists, such as Paul Kasriel of Northern Trust in Chicago, maintain that Greenspan set the economy up for the recession that began in 2001.

By promoting the productivity boom as a sign of a "new economy," Greenspan "aided and abetted the biggest stock-market bubble in the history of this country," Kasriel said. "We're going to spend several years at sub-par growth working through" resulting imbalances.

Paul McCulley, who managed $90 billion at Pacific Investment Management, the world's largest bond fund, offered this judgment: "History will treat Mr. Greenspan unkindly as the bartender-in-chief for the New Age economy, which begat the New Age bubble."

Greenspan remained unapologetic, saying in a December 2002 speech that central banks had "little experience" in dealing with market bubbles and that "dealing aggressively with the aftermath of a bubble" was "likely to avert long-term damage."

Some economists faulted Greenspan for relying too much on his own instincts.

"His big failing is that he hasn't provided the Fed with a replicable method of re-creating Alan Greenspan," Meltzer said. "He hasn't left behind an institutional framework that will guide his successor."

Greenspan gave his own reasons for not doing so, asserting that "there is, regrettably, no simple model of the American economy that can effectively explain the levels of output, employment and inflation."