Tuesday February 23, 1:47 pm Eastern Time
Greenspan Q&A-Irrational exuberance, trade-Pt VIII
NEW YORK, Feb 23 (Reuters) - Following are excerpts from the question-and-answer session after the first leg of Federal Reserve Chairman Alan Greenspan's semiannual Humphrey-Hawkins testimony before the Senate Banking Committee on Tuesday:
SEN. BAYH: (Asks why paying down the national debt is a good idea).
GREENSPAN: "What evidence we have not only in the United States but pretty much around the world is that long-term interest rates will fall as you bring the total debt down. This means that mortgage interest rates will be lower than they otherwise would be. Mortgages as you know have become increasingly not only a vehicle to fund housing but they have been used to a considerable extent as consumer debt and have been a major force. And it matters what those interest rates are. If long-term interest rates are lower and risk premiums are lower as a consequence, the cost of capital is lower. That in turn means that productive capital assets are far more readily to be produced and they will bring standards of living up because labor productivity will rise as a consequence.
"In fact all of the arguments that one can make for tax cuts, you can make for the reduction in debt. They are the same forces, but occur under different circumstances. There are occasions where I would strongly support reducing taxes even though you could have reduced the national debt because the economy needs that sort of assistance. I'm firmly of the belief that you pay down the national debt as much as you can, largely because there are going to be occasions when you are going to want to raise it. If you raise it from much lower levels, the negative impact on the economy is clearly less so.
''As a consequence of that, in the environment which we have today, in which labor markets are exceptionally tight, in which demand is exceptionally strong, when productivity is rising clearly dramatically, what we need is savings to support that system. And the government surplus which we have has been quite instrumental and quite effective in assisting in that process.''
SEN. BAYH: (Asks about tax cuts, economic growth, productivity, training.)
GREENSPAN: "It depends on how you evaluate the various priorities with respect to where education is being financed and capital assets. There is no question that productivity comes from the interaction of capital on one hand and people on the other hand. We have seen a dramatic increase in education in this country, mainly because the economy is pressing for people to have higher skills. On-the-job training has gone up dramatically. We have what we call corporate universities now who have effectively liberal arts programs as well as technical programs related to the company itself.
"Community colleges have gone up remarkably and one of the most fascinating things is the proportion of older people going back to college full time. All of this has occurred in the private sector. It's occurred under existing financial mechanisms. If you can find vehicles in the public sector which can help that, then I think you have a strong argument to say it stands on the same level as cuts in taxes which effect investment.
''I would only wish to argue that as much as there is a need for improved financing of educational institutions, let's not forget that the pressures coming from the needs of the economy have done an awful lot of that already. Is there more to be done? I suspect so. Would I know how to do it? I wouldn't, but experts probably can find ways of doing it. I would be unable to argue that tax cuts are superior to that particular project. It's a cost-benefit analysis that you're working with.''
SEN. BUNNING: ''In December 1996 with the Dow average at 6437 you were worried about what you called ''the irrational exuberance of the markets.'' With the Dow closing at 9552 (Monday), do you still have those same fears?''
GREENSPAN: "If you go back to the text of that 1996 speech, which was a very turgid speech that put an awful lot of people to sleep through most of it, what I was trying to raise was that I was concerned that the discussions with respect to the various elements of how one should do monetary policy, whether we should begin to start to look at the issue of not only the price of goods and services but also the price of assets as well.
"I raised the issues of what had been effectively a bubble in Japan in (the) 1980s into 1990 and other previous periods where it was very difficult to know if you had a bubble or whether or not you had some real underlying force in the marketplace. And the question I was asking abstractly was how will we know when markets are gripped by 'irrational exuberance'. And I didn't have an answer at that particular point.
"I think I have an answer now, in that it's very difficult to judge, except in retrospect. If any stock market ... falls by 30 or 40 percent in a matter of weeks or a very few months I will grant that there was a bubble back there. The issue of trying to identify a bubble in advance means you have to be confident enough to predict a decline of that order of magnitude, and I don't know anyone who knows how to do that.
''So we are at this stage caught in an issue where in the broadly changing economy that I've been discussing, we are seeing different things that are going on. Clearly no one has questioned at all that the dramatic acceleration we've seen in some technologies, and the marked increase in productivity and profitability of American business, has undoubtedly had a significant impact on underlying prices of all capital assets, including equities. Whether or not it's gripped by irrational exuberance is an issue that you won't really know for sure, except after the fact. But as I indicate in my prepared remarks, that I suspect that these markets are highly valued, leaves me without terribly much doubt at this point.''
SEN.: ''Do you think the present trade deficit is a cause of concern?''
GREENSPAN: "I do try to address it in my prepared remarks, not very broadly. But there is a tricky problem here which we have not been able to solve. We do know that the trade deficit does create a very large so-called current account deficit, which is really the net borrowing from the rest of the world. As a consequence of these increasing current deficits, the level of debt we owe externally is rising. The debt service payments are rising as a consequence and invariably what we are seeing is a major increase in dollar asset holdings by non-Americans, which is clearly the other side of the trade deficit.
"As of now, the appetite to hold U.S. dollar denominated assets is quite extensive, and there is no evidence that I'm aware of that is suggestive of any individuals eschewing dollar asset holdings. Of course, were that the case the exchange rate for the dollar would get exceptionally weak. It hasn't. On the contrary it is behaving very well. Which is another way of saying that the absorption of the current account deficits by the willingness to hold increased claims on the United States has shown no abatement as yet.
''But the arithmetic of increasing the debt, increasing the debt service charges, which means that goes into the current account deficit, means you can get, as certain countries have had, really very serious debt problems, which gets out of hand and becomes cumulative. Just because the debt goes up, the interest goes up, that increases the current account deficit, which in turn increases the debt and you get a spiral. We are nowhere near that as yet. But we nonetheless do have the problem projecting how far in the future this particular type of current account deficit can continue without impacting on the exchange rate and, as a consequence, on the whole structure of the United States economy.''
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