A Ray Of Light

This year's Pershing INSITE conference provided an opportunity for a hero of the 1990s whose image has been tarnished in the last 12 months to shed some light on our current predicament. No it wasn't a now disgraced dotcom CEO.


Thanks to the skillful questioning of Pershing managing director Frank La Salla, attendees got a chance to see as clear and lucid a conversation with the sphinx-like riddler, Alan Greenspan, as they ever will. I'd always viewed Greenspan as a better politician than an economist, but the talk provided some cause for reconsideration on my part.

La Salla began by asking whether we are returning to 1970s-style stagflation, as the extended explosion in commodity prices is lending support to that interpretation. Greenspan replied that the "evidence is by no means clear."

The former Fed chairman was quick to add that the extraordinary changes brought on by disinflation, which was triggered by globalization and the end of the Cold War, was a "one-shot event," and it's mostly over. Greenspan hopes that recognition of the problem will short-circuit renascent inflation in its tracks, and his successor, Ben Bernanke, appears to see this as Job One.

Much of what happens hinges on productivity, or what Greenspan described as the "application of innovation," which stalled in the 1970s. While short-term movements in productivity growth are "extraordinarily difficult to predict," long-term productivity growth has been "remarkably stable at 2%." That, more than any other single factor, explains why the U.S. has experienced amazing long-term growth.
Despite a steady stream of evidence pointing to an economic slowdown rather than a downturn, Greenspan told attendees that it is much too soon to conclude that "the U.S. has dodged a recession." While the probability of a severe recession has receded, he still believes this period will ultimately be judged a recession.

The financial markets remain in a state of turbulence, and normalcy is unlikely to return until "there is clarity on home prices and home equity." While this latest credit crisis has exposed gaps in our financial regulatory system, Greenspan did not hold out hope for regulatory reform. "If the market doesn't resolve it, regulation won't help," he predicted.

For someone occasionally accused of playing God at the Fed, his most penetrating observation was also the most surprising. Around the world, the power of central banks to exert their influence over the global economy is declining.

Many have laid blame for the recent housing bubble at Greenspan's doorstep, but he argued that the Fed's arsenal wasn't equipped with weapons that could do anything. After fears of deflation receded in 2003, the Fed began to raise short-term interest rates in 2004 with the expectation that 10-year rates would follow. They didn't. "There was very little we could do; I called it a conundrum," he said. "We were all in the grip of a universal global market" that was out of control.

While we might like to blame the housing bubble on politicians or the media, the real culprit was closer to home. Millions of Americans got sucked into a bubble, but the most remarkable aspect to this latest debacle was the willingness of giant financial institutions to risk their long-term survival for the next quarter's profits in a display of supremely irrational behavior. No one ever thought so many people that smart could be so stupid.

Evan Simonoff, Editor-in-chief

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