Alan Greenspan's Key Role
History Will Show That Alan Greenspan Played a Key Role in Creating the U.S. Housing
Back during the U.S. invasion of Iraq, when the U.S. government issued its
now-famous deck of playing cards featuring pictures of the 52 arch villains of the Iraqi police state, Saddam
Hussein's face adorned the Ace of Spades. If the Barack Obama administration wanted to engage in a similar public
relations campaign - this time with a focus on the U.S. real estate crisis - that top card should be reserved for
former Federal Reserve Chairman Alan Greenspan.
In a speech before the National Association of Realtors last Tuesday, Sir Alan
"the-bubble-blower" Greenspan claimed that his low-interest-rate policies in the early and middle years of this
decade had no effect on mortgage rates or real estate prices. As a result, he claims no responsibility for the
subprime mortgage crisis. But even current Treasury Secretary Timothy F. Geithner - who shared
interest-rate-policy responsibility as governor of the New York Fed during the Greenspan regime - recently admitted
that overly accommodative policy helped inflate the bubble. So what does Greenspan know that everyone else
Greenspan's primary defense is that mortgage rates were a function of long-term
interest rates that were simply not responding to the movement in short-term rates, which he did control. While it
is true that the flow of capital from foreign creditors with excess dollars did keep long rates low despite rising
short rates, this "conundrum" was not the leading factor in the housing bubble. Although rates on
30-year-fixed-rate mortgages are based on long-term bonds, by 2005 such loans had become an endangered species. The
housing bubble was all about adjustable-rate mortgages (ARMs) with teaser rates of one to seven years - which
are primarily based on the benchmark Fed Funds.
The rock-bottom teaser rates, permitted by the 1.0% Fed Funds rate, were the
primary reason that many homebuyers were able to qualify for mortgages they couldn't otherwise afford - which, in
turn, enabled them to bid U.S. home prices up to "bubble" levels. By pushing down the cost of short-term money, the
U.S. central bank enabled homebuyers to make big bets on rising real estate prices. Without the Fed's help, few
borrowers would have "qualified" for these risky mortgages and real estate prices never would have been bid up so
Greenspan expresses exasperation now, as he did then, that his careful nudging of
interest rates higher by quarter-point increments did not translate into corresponding increases in long-term
rates. Unfortunately, according to Greenspan, the markets would not cooperate with his wise guidance, and to his
dismay, mortgage rates fell despite his best efforts.
As they say in Texas, that dog just won't hunt. If the "measured pace" of his
quarter-point rate hikes were too slow to produce the desired effect, why didn't Greenspan jack up the pressure?
With interest rates far below the official inflation rate for so many years during the bubble, he certainly had
plenty of room to maneuver. The claim that he was unhappy with the ultimate results of his rate hikes - despite his
having done nothing to adjust that policy - is ridiculous.
In addition to his colossal errors on interest-rate policy, there were many other ways
Greenspan blew air into the real estate bubble. One example was what the market called the "Greenspan put." By
creating the perception in word and deed (that has since proven accurate) that the Fed would backstop any major
market or economic declines, lenders became more comfortable making risky loans.
In an often-quoted 2004 speech, Greenspan went so far as to actively encourage the use
of adjustable-rate mortgages and praised home-equity extractions for their role in contributing to economic growth.
In fact, rather than criticizing homeowners for treating their houses like ATM machines, he often praised the
innovative ways in which such homeowners were "managing" their personal balance sheets.
In short, Greenspan was as much a proponent of leverage for homeowners on Main Street
as he was for bankers on Wall Street.
The bottom line is that Greenspan fathered the housing bubble and now he refuses to
acknowledge kinship with his wayward child. His denial of responsibility is an act of stunning bravado, and is a
testament to his ability to turn even the simplest of situations into an impenetrable tangle of theories and
"The Maestro" easily trumps the private sector jokers who now hold top dishonors in
our pack of economic villains. The fact that Greenspan still has any credibility shows just how little
understanding the general public - including Wall Street and the media - actually has about this crisis.