By Steven Pearlstein
Friday, January 20, 2006
When the definitive history of Alan Greenspan's tenure as chairman of the Federal Reserve is written, he's likely to get higher marks as crisis manager and politically savvy Washington insider than as economic forecaster or even manager of monetary policy. He will be remembered as having been perceptive enough to identify a productivity revolution in the making and flexible enough to let it run its course. Still to be written are the chapters on the consequences of his leaving office with the country at once deeply in debt to the rest of the world and awash in low-cost capital.
But perhaps Greenspan's most important contribution has been as the policymaker who, through the power of his office, the force of his intellect and the cunning of his behind-the-scenes maneuvering, engineered the wholesale deregulation of the U.S. banking and financial system. In this respect, his most enduring legacy is an American economy that is not only more prone to assets bubbles, corporate scandal and financial crises, but robust enough to absorb such shocks while continuing to deliver long-term economic growth.
A determination to substitute the wisdom of markets for the heavy hand of government runs through the Greenspan story. It begins with the heady Greenwich Village days as a follower of Ayn Rand's "objectivist" movement, continues through his years as economic adviser in the Ford White House, informs his "wilderness years" as Wall Street consultant and lobbyist and culminates in his 18-year run at the Fed, which ends this month.
There was, for example, his work on behalf of Lincoln Savings and Loan seeking permission for thrifts to branch out from boring old home loans to invest directly in commercial real estate ventures. Greenspan told Congress such powers were "essential for the financial stability and survival of the savings and loan industry." Congress agreed, but this first bit of financial deregulation spawned a crisis that nearly wiped out the industry, cost taxpayers more than $100 billion and landed Lincoln's top executive in prison.
Once installed at the Fed, Greenspan immediately began pushing Congress to repeal the Depression-era law that prevented banks from competing with investment banks in underwriting stocks and bonds. When Congress dallied, he used the Fed's supervisory authority to allow banks to circumvent the law and usher in the era of the megabank. In subsequent actions as bank regulator, Greenspan never met a merger he didn't like, a "firewall" he didn't trust or a consumer protection initiative he didn't find misguided.
When crisis struck, Greenspan was quick on the scene with liquidity to prevent it from spreading. But he almost never saw in such episodes a reason for new regulation.
Even after derivatives trading bankrupt Orange County, Calif., and the venerable Barings investment house, Greenspan fought efforts to regulate these newfangled financial instruments.
And while the near collapse of Long-Term Capital required the Fed's jawboning to prevent a global financial meltdown, Greenspan opposed efforts by the Securities and Exchange Commission to initiate even modest regulation of the $1 trillion hedge fund industry.
After the Enron scandal, accounting regulators set out to draft rules to prevent companies and their lenders from using "special purpose entities" to hide indebtedness from investors. Objections from the Fed stalled adoption of the new rules, and eventually watered them down.
And just yesterday came Greenspan's latest salvo in his campaign to dismantle Fannie Mae and Freddie Mac. In a letter to Sen. John E. Sununu (R-N.H.), he reprises his view that there's nothing the government-sponsored mortgage lenders do that private banks couldn't do at less cost to taxpayers, with less threat to the financial system.
As you can probably tell, I didn't much like most of these decisions. There was, and is, plenty of evidence that skillful regulation and intervention can help deter corporate fraud, protect investors from Wall Street sharpies and reduce the frequency and severity of assets bubbles and financial crises.
At the same time, Greenspan is probably right that deregulation sparked a flurry of financial innovation that has made capital cheaper and more readily available, done a better job of pricing and spreading risk and shielded the economy from the impact of financial crises. Although the United States recently suffered the second-worse stock market crash in its history, with trillions of dollars in losses for lenders and investors, the economy experienced only a short, mild recession without a single failure of a bank or major Wall Street firm.
Greenspan summed up the trade-offs behind his deregulatory philosophy in a series of unusually lucid speeches in London in 2002, on the eve of being knighted by Queen Elizabeth. "The extent of government intervention in markets to control risk-taking," he said, "is a trade-off between economic growth and its associated potential instability, and a more civil but less stressful way of life with a lower standard of living."
Rereading those speeches this week, I found them wiser and more prescient than I did three years ago. Yes, we Americans have a more stressful way of life because of the deregulation championed by the wily chairman of the Federal Reserve. But, collectively, we are richer for it, and we have Alan Greenspan to thank for that as well.
Steven Pearlstein can be reached firstname.lastname@example.org.