Alan Greenspan, who served as Chaiman of the Federal Reserve under 4 presidents, passed away last week at the age of 100. He died of complications related to Parkinson’s disease according to his wife, NBC News journalist Andrea Mitchell.
Greenspan is widely regarded as perhaps the most influential central banker in history. First appointed by Ronald Reagan in 1987, he served until 2006, a tenure second only to William McChesney Martin. During his time at the Fed, he presided over one of the longest economic expansions in American history and was respected across the political divide.
He will be remembered for his trenchant insights into the economy based on detailed analysis of data as well as his instinct for discerning patterns that others missed. These skills allowed him to lead the Fed’s successful responses to several crises during his leadership. However, his legacy is also complicated by his unalloyed faith in the power of free market capitalism to correct its own excesses, a failing that contributed to the severity of the 2007-2009 global financial crisis and which he later admitted was a mistake.
A native New Yorker, Alan Greenspan set out to be a jazz musician, studying clarinet at the Julliard School. But he was always drawn to understanding how the economy worked. He completed bachelor’s and master’s degrees at New York University and co-founded the consulting firm of Townsend-Greenspan in 1953. His entree into government service came in 1974, when he was tapped by Gerald R. Ford to lead the Council of Economic Advisors. Greenspan also chaired the 1983 bipartisan commission tasked with rescuing Social Security.
After taking the helm of the Federal Reserve in 1987, Greenspan proved to be both an effective leader and a deliberately abstruse communicator. He led the Fed’s response to a perilous stock market crash just weeks into his term, and navigated the savings and loan crisis, the Asian debt crisis, and the collapse of the massive hedge fund Long Term Capital Management during the Russian debt default. In time, his willingness to cut rates to support the markets came to be called the “Greenspan put.” A put is a financial instrument that provides downside protection.
Greenspan was willing to lower interest rates below the level many economists believed prudent under the conventional assumption that inflation would be reignited. He had correctly discerned evidence in the data that productivity gains from wide adoption of personal computing were not being fully measured, allowing him more room for rate cuts. During his long service at the Fed, inflation averaged 2% with relatively low unemployment and robust economic growth, a period that has been dubbed the Great Moderation.
He was also a surprisingly savvy political operator. Although a registered Republican who advised Richard Nixon’s 1968 campaign, Greenspan got along famously with Bill Clinton throughout his 8 year presidency. During Senate confirmation for his final term in 2004, he received only 1 no vote. He proved to be a forceful and effective leader of the Federal Reserve Board of Governors, presiding over 487 policy votes with only 7 dissents in 18 years.
Yet despite the legacy of successes during his long tenure at the Fed, it was a notable failure that led Greenspan to do something rarely seen in modern public life: admit that he had been wrong.
While his formal education in economics emphasized the free market capitalism of Scottish theorist Adam Smith, his worldview was also shaped by his close association with philosopher and author Ayn Rand. Rand was an eclectic Russian emigree who championed an extreme form of libertarianism as portrayed in her 1957 novel Atlas Shrugged. Greenspan was deeply influenced by Rand’s hostility toward any government role outside of national defense and law enforcement.
In his role as Fed Chairman, Greenspan continued to believe that enlightened self-interest and market forces rendered government regulation unnecessary. He had even lobbied actively for repealing the depression era Glass Steagall act which had limited commercial banks’ ability to engage in investment banking. It was only after retirement from the central bank that his opinion changed.
As many economists and even Greenspan himself suspected, his policy of holding interest rates low was inflating a bubble in the U.S. housing market and mortgage lending. Yet while he recognized the bubble, he continued to believe that market incentives in banking system would mitigate the risk. This time, he proved to be wrong and to his credit, he owned it.
By 2006, banks and mortgage brokers were lending to virtually anyone who could fog a mirror to supply the raw material for Wall Street to bundle and resell as toxic securities. By 2005, 40% of home loans were made to subprime borrowers, many with no down payment and little documentation. It all came crashing down in 2007, requiring a massive government bailout of the largest financial institutions to stave off a global collapse.
Greenspan addressed the crisis in testimony before the House Oversight Committee in 2008. “I made a mistake in presuming that the self-interests of organizations, specifically the banks and others, were such as that they were best capable of protecting their own shareholders and their equity in the firm. I have found a flaw.” He went on to say, “those of us who have looked to the self-interest of lending institutions to protect shareholders’ equity, myself especially, are in a state of shocked disbelief.” Having built his career and reputation on his belief in the rationality of markets, he admitted a mistake. “The whole intellectual edifice, however, collapsed in the summer of last year.”
Self-reflection is a singular commodity. Greenspan’s willingness to examine his core beliefs presents an admirable example of intellectual honesty that is all too rare. Although he never fully acknowledged the role of the Fed’s easy money policy in creating the mortgage bubble, he did recognize that free market capitalism can create imbalances substantial enough to topple the entire system in the absence of prudent regulation. This may be one of his greatest achievements.