Next up on the essays shelf:
The New Gilded Age: The New Yorker Looks at the Culture of Affluence
John Cassidy is a British-American journalist, who is a staff writer for The New Yorker. I love his stuff, even though he often writes about things that are relevant to me life in only a peripheral way. He also wrote a book I love, called Dot.con: How America Lost Its Mind and Money in the Internet Era (excerpt here, involving Priceline’s IPO). As I talked about yesterday, I had a front row seat to that crazy era. I went through an IPO. I went through the following plunge downwards. It felt historic, AS it was happening. I was just a bit player, but it impacted my life. John Cassidy is excellent on breaking down how all that came about, and the acceleration of mania and speculation, which put the entire culture into La-La Land.
His profile of Alan Greenspan, ‘The Fountainhead’, came out in The New Yorker in April of 2000. The bad bad times were a-comin’. I honestly don’t know that much about Alan Greenspan, and what I do know (at least about his background) is from Cassidy’s essay. Greenspan was a musician, too. He played various instruments. The image of Greenspan going to little poetry-reading evenings at Ayn Rand’s apartment down in Greenwich Village … What? I kinda want to go back in time and crash one of those parties. Clearly that biographical detail fascinated Cassidy too, considering the title he gave the profile.
Greenspan was appointed Federal Reserve Chairman by Reagan and served in that role until he retired in 2006. His tenure was well-covered by the press (to put it mildly), and during the ups and downs of those years, he took on something of an Oracle status. This probably wouldn’t have occurred if we hadn’t experienced a speculative boom, as we did in those days – which certainly lessens people’s capacity to think clearly, or to want to hear the truth. Cassidy’s book is great in pointing out how the media became co-conspirators in the mania: nobody wanted to be “the one” saying, “Uh, guys? Maybe we should calm down. Looks like we’re in a bubble, and we all know how those go.”
I am no expert on Alan Greenspan’s role in all of that, although his image was certainly tarnished by the Internet crash and then the mortgage crisis. But I do remember very well the speech he gave in 1996 when he used the by-now-famous phrase “irrational exuberance”. (A pretty great phrase there, Alan.)
“Clearly, sustained low inflation implies less uncertainty about the future, and lower risk premiums imply higher prices of stocks and other earning assets. We can see that in the inverse relationship exhibited by price/earnings ratios and the rate of inflation in the past. But how do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions as they have in Japan over the past decade?”
That is the question, Alan. But one of the things about “bubbles” is that it doesn’t seem like a bubble while you are in it. And that sound of a warning bell was not welcomed, by those who were making tons of money. “Irrational exuberance? What the hell are you talking about?” Hands over ears, lalala, I’m not listening.
Greenspan’s financial policies had a lot to do with creating the conditions that allowed the boom and subsequent crash to happen, but there is also a psychological aspect to finance (perhaps it is the most important aspect) – and controlling the markets is akin to wrestling with a giant anaconda. As more and more of the culture starts participating in and benefiting from what will later be seen as a bubble, the harder and harder it is to put the brakes on.
I highly recommend John Cassidy’s book about all of this! He’s a lovely writer! Books about “speculative bubbles” are one of my sideline interests – and I honestly don’t know how that came about. I guess I am interested in the psychological aspect. It loops in with my ongoing interest in how the brain works, in cults, in brainwashing, in the ability we have to turn our brains off.
Here is an excerpt from Cassidy’s essay on Alan Greenspan.
The New Gilded Age: The New Yorker Looks at the Culture of Affluence
The Marriner S. Eccles Federal Reserve Board Building, built in 1936, is an austere white marble box extending for an entire city block along Constitution Avenue between Twentieth Street and Twenty-first Street. Visitors pass through security on the C Street side and find themselves in a large open area dominated by Doric columns and a grand marble staircase. At the top of the staircase and through a hallway is the Fed’s inner sanctum: a long corridor lined by governors’ offices and a large, ornate boardroom that was used during the Second World War for the Arcadia Conference, at which Roosevelt and Churchill mapped out the Allied campaign against Hitler.
Eight times a year, the boardroom houses a meeting of the Federal Open Market Committee. (The committee has twelve seats: seven are taken up by Fed governors appointed by the President; the five others rotate among the presidents of the twelve regional Reserve Banks. At the moment, two of the governors’ seats are vacant.) The meetings begin with charts and a presentation by Michael Prell and Karen Johnson, the Fed’s top staff economists. It is one of the Fed’s many peculiarities that these officials are paid substantially more than the Fed chairman. (Prell earns about a hundred and seventy-five thousand dollars a year, Greenspan just over a hundred and forty-one thousand.) After Prell and Johnson, Greenspan goes around the table and asks each committee member for his or her opinion before stating his own. This process is not just ceremonial. There are seventeen people currently eligible to serve on the F.O.M.C., and thirteen have doctorates in economics. Greenspan is the undisputed leader all the same, and the other members are reluctant to vote against him. “He produces consensus in the same way other good leaders do: by listening extremely closely to what others have to say, by synthesizing that very well, and by sensing the broad middle,” Roger Ferguson, the Fed’s vice-chairman, told me. “Also, he clearly has a point of view about the economy. He presents it in speeches. He presents it privately as well.”
The current debate within the F.O.M.C. is not whether to raise interest rates further but by how much. Greenspan, after playing the Randian hero, liberating the forces of Internet capitalism, has now reverted to the more traditional central banker’s role of restraining a rampaging economy. Complicating his thinking is the stock market. In a now famous December, 1996, speech, he posed the question “How do we know when irrational exuberance has unduly escalated asset values?” The query wasn’t purely rhetorical. For the next year or so, Greenspan and his staff studied the question, before concluding that it couldn’t be answered sensibly. With no signposts to guide him, Greenspan decided that the Fed should stand aside and let the stock market find its own level. Whether or not the decision was soundly based – some observers, including me, have argued that it wasn’t – it proved unsustainable. Eventually, the rising stock market revved up the economy to such an extent that Greenspan could sit on his hands no longer.
He is now in the awkward position of arguing, simultaneously, that the Fed needs to restrain the economy; that the economy is zooming mainly because of the rising stock market; and that the Fed is not targeting stock prices. In principle, the three statements might be reconciled – although not easily. In practice, if Greenspan is determined to slow down the economy he will almost certainly have to keep raising interest rates until the stock market cracks (not merely shakes). He still believes it is impossible to determine with certainty when a healthy bull market turns into a speculative bubble, but he has also told colleagues that he now suspects that what is happening on Wall Street has elements of a bubble. He is particularly alarmed by the spread of computer day-trading, which he compares to casino gambling. In lighthearted moments, he has been heard to suggest that all day traders should be forced, before they start trading, to take an examination in which they are asked to identify the products of the companies that they intend to buy and sell.
With the Fed raising interest rates, the big question is whether the bubble will deflate gradually. History doesn’t teach any simple lessons. In 1929 and 1987, Fed interest-rate hikes were followed, at some distance, by stock-market collapses. In Japan a decade ago, the central bank raised interest rates explicitly to burst a speculative bubble. There was no collapse, but a slow, inexorable decline in stock prices ensued. Greenspan is well aware that another stock-market crash is a real possibility, but that threat probably won’t deter him from raising interest rates further if he believes it is necessary. To him, the Fed’s primary duty is to keep the economy on a sustainable course of growth. He also believes that a Wall Street crash would not necessarily be such a bad thing for the economy, as long as the Fed acted wisely in its wake. “Remember the big one-day decline we had back in October 1987?” he asked Lawrence Lindsey. “Its impact on the economy was not all that great. Then, there was the severe decline in stock prices in Japan early in this decade. True, it took growth out of the system, but most of what they have experienced since is the result of an increasingly corrosive nonperforming loan problem. There is no guarantee that even if you get a 1929, you’ll end up with a 1932.”
