Greenspan's changing tune Despite its chairman's
recent claims, the Fed noticed a stock-market bubble six years ago.
September 18, 2002: 3:53 PM EDT
By Mark Gongloff, CNN/Money Staff Writer
NEW YORK (CNN/Money) - Federal Reserve Chairman Alan Greenspan, despite his
recent protests to the contrary, recognized the stock-market bubble in the late 1990s
and even weighed taking action against it, according to information uncovered by a
private research firm.
In a speech last month about economic volatility, the central bank chairman -- partially in
response to growing criticism that he and his fellow policy makers had failed to correct
swollen stock prices, the collapse of which helped cause a recession -- said the Fed was
never sure there actually was a stock-market bubble.
"It was very difficult to definitively identify a bubble until after the fact -- that is, when its
bursting confirmed its existence," Greenspan said.
But the Financial Markets Center (FMC), a private research firm in Philomont, Va.,
reviewed transcripts of prior Fed policy meetings and found that Greenspan and other
policy makers had identified an equity bubble as early as Sept. 24, 1996.
"While it is not so large as to exert undue pressure on the real side of the U.S. economy,
this emerging bubble is nonetheless real," said Lawrence Lindsey, then a Fed governor
and currently a key economic adviser to President Bush, according to minutes of the
meeting.
"As in the United States in the late 1920s and Japan in the late 1980s, the case for a
central bank ultimately to burst that bubble becomes overwhelming," Lindsey added.
"I recognize that there is a stock market bubble problem at this point," Greenspan replied,
"and I agree with Governor Lindsey that this is a problem that we should keep an eye on."
Shortly after that meeting, on Dec. 5, 1996, Greenspan made the famous speech in which
he wondered, "[H]ow do we know when irrational exuberance has unduly escalated asset
values, which then become subject to unexpected and prolonged contractions as they
have in Japan over the past decade?"
The speech caused a temporary shock in the stock market, as traders worried Greenspan
was warning of a stock bubble. But it might have simply been an expression of
Greenspan's internal struggle to figure out if there a bubble existed or not.
Fed historian Allen Meltzer, a Carnegie Mellon professor and founder of the Shadow
Open Market Committee, which studies monetary policy, said Greenspan changed his
mind after 1996 about the possibility that stocks were overpriced.
"After 1996, he recognized there had been a productivity change," Meltzer said. "[Stock
prices] rose because people believed there was productivity improvement -- and there has
been. The thing that turned out to be wrong was that productivity has not been
profitable."
But is having the Fed chairman change his mind about such a critical issue desirable?
"The problem with the Greenspan Fed is that it has been a 'make it up as you go along'
Fed," said Jim Bianco, president and research director of BiancoResearch.com. "There is
no philosophy with Greenspan. He changes his mind about all of this stuff."
Bianco pointed out that Greenspan has also changed his mind about one possible remedy
for the bubble -- manipulation of margin requirements.
In the Sept. 24, 1996, policy meeting, Greenspan said he wasn't sure raising short-term
interest rates, the Fed's most potent policy tool, would be of much help in dealing with the
bubble. And, in fact, the Fed left rates alone at that meeting.
But many Fed critics have charged that the Fed could have raised lending requirements
for margin trading in stocks. Margin trading, which is essentially buying stocks on credit,
often helps fuel speculative booms.
In several speeches in recent years, Greenspan has dismissed the effectiveness of raising
margin requirements.
"There is no evidence to suggest margin requirements have an effect on stock prices," he
said in response to a question at a Jan. 13, 2000, speech.
In his August speech about economic volatility, Greenspan amended that idea, saying
raising margin requirements might impact stock prices, but only if traders believed the
higher margin requirements would be followed by a rise in short-term interest rates.
In 1996, however, Greenspan seemed to have a totally different view of the impact of
higher margin requirements.
"We do have the possibility of raising major concerns by raising margin requirements,"
he said in the Sept. 24, 1996 meeting. "I guarantee you that if you want to get rid of the
bubble, whatever it is, that will do it. My concern is that I am not sure what else it will do."
The Fed declined to comment on any of the issues raised by the Sept. 24 transcript.
The FMC, in a release on its Web site, said, "While it seems unlikely that margin
adjustments alone are capable of remedying all stock-market imbalances, the Fed has yet
to provide a convincing explanation for its decision to leave margin requirements
untouched during one of the greatest asset bubbles in U.S. history." |
