1 Boring Old Man

In 2010, reading these things is painful – because we know they are wrong. The idea that we shouldn’t even try to stop fraud, relying instead on the Market itself to take care of such things, seems too naive to even contemplate. We can look back over the last thirty years and see the rubble deregulation has introduced into our economy – wave after wave of financial disaster, some costing the government billions of dollars.

But that’s not how it looked only a few years ago, even as recently as the year Alan Greenspan retired as Chairman of the Federal Reserve in early 2006. His tenure had been one of our most prosperous we’d ever experienced. The Stock Market soared beyond any of our wildest imaginations. It was the age of the Internet and we were surrounded with technology that seemed to come straight from the world of Science Fiction – a virtual reality that improved almost daily. Credit was easy, and many of us lived leveraged lives – that was, in fact,  becoming the norm. We didn’t exactly know that it was a period operating on Ayn Rand’s theories of a laissez–faire Free Market, but if we had, we would surely have thought she was definitely onto something.

During the post-Reagan Greenspan Era, the construction industry was booming, Interest Rates were low, and the value of real estate was sky-rocketing. Regular people [like me] took advantage of the escalating home equity and low Interest Rates to refinance our property to pay our kid’s college tuition. The gains in the DOW inflated our 401K Plans and we sold our homes for big profits, some of us [like me] retiring early on the welcome rewards of a golden period. Even the pesky business cycle [recurrent Recessions] was unusually kind. The two Recessions during Greenspan’s time as Chairman of the Federal Reserve were the most infrequent since World War II, and their magnitude [unemployment, start to peak] was the lowest. It’s little wonder we called Alan Greenspan the Maestro.

The great irony in all of this is that the Free Market was anything but "free," particularly from Alan Greenspan himself. He was all over the economy besides his business protecting the Market from being regulated – putting out fires and using his power to set Interest Rates to insure that things ran smoothly.

Looking at the top graph, it’s easy to see how the Fed has dealt with Recessions. Unemployment starts up, lower the Interest Rate. While that hurts the lenders, the easy money gets things going again. Once Recovery is on the way, raise the Interest Rates. It’s been the way things  are done at the Fed for as long as there has been a Fed. The bottom graph makes the potential downside apparent. Part of stimulating the economy by lowering the Interest Rate is for there to be a boom in housing starts as builders and buyers lock in low Interest construction loans and Mortgages. Bringing the Interest Rates back up allows the lenders to make their profit. It’s something of a dance. As you can see, the Greenspan Era is characterized by persistent low Interest Rates – actually stepping down over time. At the time, we basked in the prosperity that came from his way of doing things. Though now we’re asking, "How come?" "Why so low?"

The bottom graph shows the consequences of those low rates. Holding the Interest down enabled a fifteen year building boom, unprecedented in our history. While that’s not the only thing that contributed to our overbuilding, it was certainly a major [and essential] piece of the problem. The graph shows another unprecedented phenomenon – the dramatic escalation in house values known as the "housing bubble" [the purple line on the lower graph above]. Whoever wrote the section in Wikipedia on the Subprime Mortgage Crisis did an excellent job, so I’ll only mention a highlight or two. Greenspan had his fingers in a lot of it. There was a lot of fraud, buyers and lenders alike fudging the loan applications. His prediction, "You know, I think the Market will figure it out – take care of the fraudsters." didn’t exactly happen. If anything, the "Market" jumped on the train. And the creative "subprime" loans to buyers with shaky credit ratings became unfortunately common – loans that people should’ve known would have a high default rate. Then there’s the whole unfortunate story of the commerce in the Collateralized Debt Obligations [cdos] sold on the unregulated Derivative Market that silently became the cancer that killed the patient [the brown line on the lower graph above]. So Alan Greenspan’s opposition to regulation and his notion that the Market would deal with fraud now appear as they actually should’ve been seen back then – completely absurd ideas.

But we’re at fault too. We overlooked what any fool should have known about human nature – people who are in the business of making money are in the business of making money – they go for profit. People who don’t own homes and are offered a way to buy a home will buy it. Entrepreneurs  who play in the casinos [like the Derivatives Market] are there for the winnings and don’t think about where they come from. Alan Greenspan should’ve known that Ayn Rand’s naive notions might work in the bazaar of a small Russian village, but are doomed in a large Capitalist system. He should’ve known that keeping us prosperous opened us up to forget to pay appropriate attention to risk. We all should’ve known it. Actually we did, but kept on anyway. We can at least give Alan Greenspan credit for one thing. He coined a term for this aspect of human nature – irrational exuberance. Greenspan had some of that himself. Like the hordes that poured into the Klondike during the Gold Rush – it’s just the way we are.

Now we live with a housing industry that’s in the toilet, stagnant unemployment, staggering national debt,  and political chaos. Many of those houses that we built and urged people to buy are now sitting empty, and there are more being foreclosed daily. Once again we’ve learned that an unregulated Free Market Economy isn’t so "free" after all. It costs us a mint sooner or later [déjà vu 1929].