by Maggie Mahar
In the Ford administration, Greenspan was, in at least one important way, the odd man out: “Everyone in the administration played tennis,” Seidman recalled, “everyone except Greenspan. He didn’t know one end of the racket from the other.”
By 1987, however, when both Seidman and Greenspan found themselves back in Washington—Seidman as head of the Federal Deposit Insurance Corporation (FDIC), and Greenspan as chairman of the Federal Reserve—Greenspan had learned the game. “All of those years, he had been taking lessons,” said Seidman. And by 1987, at age 61, “Greenspan had become a pretty decent player.” At first glance, Alan Greenspan does not appear cut out to be a tennis player. It is hard to imagine his somewhat ungainly, melancholy figure dancing the baseline or rushing the net. But, as Seidman observed, “He knew it was important—that’s the kind of politician he was.”26
Alan Greenspan had always learned by watching. When he was five years old, his parents divorced. According to Justin Martin, one of Greenspan’s biographers, the crash of 1929 had pushed their marriage over the edge. His mother moved back into the one-bedroom apartment where her parents lived in the Washington Heights section of New York. There, Greenspan and his mother slept in the dining room. But the young Greenspan also spent time with the family of an uncle who was a successful businessman with a summer home in the Rockaways. There, an observant, bright child could learn about a more spacious world.27
After high school, Greenspan studied at the Juilliard School of Music, and then went on to play tenor sax and clarinet for the Henry Jerome Band, a “big band” known for its bebop sound. (Leonard Garment, who would become President Nixon’s special counsel during the Watergate hearings, was the band’s manager. In 1966 Garment introduced Greenspan to Nixon, then Garment’s law partner.) Greenspan was a workmanlike musician, and good enough to play professionally. But in an era when improvisation was changing the texture of American music, he lacked both the talent and the temperament to riff. He could only play “by the sheets”—following the notes on the page.28
Already interested in business, Greenspan became the band’s bookkeeper and helped his fellow musicians with their income taxes. After a year he left the band, and in 1945, he began studying economics at New York University’s business school. From there he went on to take graduate courses at Columbia. But Greenspan was too pragmatic to be interested in the academic world of economic theory, and before completing a Ph.D., he left Columbia. In 1953, at the age of 27, he became a partner at an economic consulting firm that counted companies like U.S. Steel and J.P. Morgan among its clients. As an economist, Greenspan liked to focus on the basic nuts and bolts of business statistics: inventories, prices, home sales. He was obsessed with data—but the nineties image of the Fed chairman as a savant would be misleading. Among his peers, acquaintances said he was “about what you would expect from a business economist—nothing more, nothing less.”29 Greenspan would never win a Nobel Prize for economics. Nevertheless, as Bill Seidman observed, “part of his mystique is that he is hard to understand, and that also gives him a certain genius aspect.”30
Greenspan’s speaking style illustrated the limits of his empirical approach to knowledge. Often, the Fed chairman was accused of being opaque—though if you sat down to read his speeches, you would see his meaning was perfectly clear. The problem was that his bristling vocabulary got in the way of communicating. He lacked an ear both for the rhythm of the language and for its nuances. It was as if he had grown up in another country and had studied English from a very large dictionary—but had never heard the language spoken. He knew the notes, but not the phrasing. Yet, the sheer size of his vocabulary, combined with the gravitas of his physical presence, created the image of Greenspan as the wizard behind the curtain.
If Greenspan did not bring genius, he brought a certain moral passion to his post as Fed chairman. In the fifties, while honing his skills as an empiricist and a working economist, Greenspan fell under the spell of Ayn Rand, a utopian libertarian best known for her popular novels The Fountainhead and Atlas Shrugged. In these novels and in other writings, Rand celebrated individualism and laissez-faire capitalism—the belief that government should keep “hands off” free markets. Her effect on Greenspan would be long lasting. Years later, he told a reporter from the Times: “What she did—through long discussions and lots of arguments into the night—was to make me think why capitalism is not only efficient and practical, but also moral.” In an article for Rand’s Objectivist Newsletter written in the early sixties, Greenspan explained the basis for his belief: capitalism “holds integrity and trustworthiness as cardinal virtues and makes them pay off in the marketplace,” he declared, “thus demanding that men survive by means of virtues, not of vices.”31
It was an idealistic but flawed view. Certainly capitalism intends to reward ambition and hard work, but it is not set up to punish dishonesty or penalize a lack of integrity. An industrious robber baron can flourish—as the biographies of both turn-of-the-century rogue capitalists and modern-day adventurers like Enron’s CEO Kenneth Lay demonstrate. In the marketplace, short sellers sometimes curtail the career of a rogue capitalist, but American-style capitalism assigns primary responsibility for curbing criminal ambition to government bodies: the SEC, the Justice Department, Congress, and the courts—which is why it is so important that their integrity not be compromised. If they fail, capital flows, not into the projects that might increase the wealth of nations, but into the pockets of those with the greatest clout or the strongest lobbyists.
Nevertheless, Greenspan, like Rand, believed that capitalism was inherently moral, and Rand’s teaching stiffened Greenspan’s own laissez-faire philosophy: insofar as possible, government should keep “hands off” and let a market that is not only efficient, but moral, have its head.
Meanwhile, during the years that he served as head of Gerald Ford’s Council of Economic Advisors, Greenspan built his social and political network in the power corridor that runs from New York to Washington. Before long, he was seen squiring television personality Barbara Walters to A-list social events.32 “Greenspan’s ability to impress influential people, though rarely remarked upon, is in many ways the key to his success,” observed New Yorker writer John Cassidy in a revealing profile of the Fed chairman. Though Cassidy noted, Ayn Rand was suspicious of Greenspan’s social skills: “‘The problem with A.G. [Alan Greenspan] is he thinks Henry Luce is important,’ she once remarked, referring to Time Inc.’s founder. On another occasion, she asked, ‘Do you think Alan might be a social climber?’”33
After Ford was defeated in 1976, Greenspan left Washington, but he continued to cultivate his connections, and in 1981 President Reagan appointed him to his economic policy board. Six years later, Reagan named Alan Greenspan chairman of the Federal Reserve.
Greenspan won the job first and foremost because he was a Republican. His predecessor, Paul Volcker, was “a known Democrat” in the words of James Baker III, the Texas lawyer who served first as President Reagan’s chief of staff, then as secretary of the Treasury. Baker lobbied hard to replace Volcker. He wanted a Fed chairman who shared the administration’s politics, but even more he wanted a Fed chairman who would cut interest rates. Volcker would go down in history as the Fed chairman who finally broke the back of the double-digit inflation that strangled the seventies, but he had done it in the only, painful, way it could be done: by raising interest rates.
Finally, in 1987, Baker managed to engineer Volcker’s retirement. “We got the son of a bitch,” he told a friend in New York. “Baker was convinced that Greenspan was the person they needed at the Fed—a team player,” political reporter Bob Woodward observed.34
On August 18, 1987, Alan Greenspan chaired his first Federal Reserve meeting. After several hours of roundtable discussion, Greenspan addressed the board: “We spent all morning, and no one even mentioned the stock market—which I find interesting in itself,” he remarked.35 With that one statement, Greenspan, however unwittingly, set th
e tone for Fed policy in the nineties. Wall Street, not Main Street, was now the center of the economy. Greenspan, after all, was from New York, not Washington. From his perspective, the seat of the nation’s prosperity lay in lower Manhattan. And during his tenure as Fed chairman, a roaring bull market would convert much of the nation to a New Yorker’s view of the world.
But in August of 1987, Greenspan was concerned that the center would not hold. Like many experienced observers, he realized that the stock market was overvalued. Worried that financial euphoria would lead to inflation, he persuaded the Fed board to do exactly the opposite of what Baker had envisioned. One month before the October 1987 crash, the Federal Reserve voted to boost the discount rate—the rate that the Fed charges banks for overnight loans—a full half percent, to 6 percent.
By making it more expensive to borrow, Greenspan hoped to slow the economy. But central bankers have limited powers: he could not forestall Black Monday. Still, he did his best to restore confidence. The day after the crash, the Federal Reserve flooded the markets with liquidity—though, in retrospect, some observers would suggest that the Fed’s response may have set investors up for the high-stakes game of the nineties. “The lingering effect of the Fed’s timely intervention was to leave investors believing that the markets were less risky than [they really are],” observed Leon Levy, cofounder of the Oppenheimer Funds. “The crash itself was written off as the result of a one-time and unforeseen catastrophe caused by computer selling.”36 The efficient market theory remained intact.
But if Greenspan helped sweep the lessons of ’87 under the rug, he did not stop worrying about inflation. As part of his campaign to make sure that inflation was truly dead, he continued to jack up short-term rates, lifting them from 6.5 percent in March 1988 and to almost 10 percent a year later. When the Fed chairman had finished the task, inflation was no longer a threat—if it ever had been. Some economists would say that although the memory of a rising consumer price index still haunted the economy, an era of disinflation already had begun. Over the next decade, consumers could no longer assume that the price of a new car would rise every year. Prices of many items would fall. But it would be a long time before Americans would stop looking over their shoulders for the ghost of inflation—another example of how long it takes human beings to realize that they are in a new economic cycle.
What is certain is that by 1989, the economy was no longer in danger of pirouetting out of control. To the contrary, when George Bush came to the White House in January, he inherited an economy on the verge of a swoon. Greenspan recognized the need for stimulus, and in the spring of 1989, he reversed direction and began cutting interest rates, making it cheaper to borrow money. From 1989 to 1992, the Fed chairman trimmed short-term rates as if he were slicing sushi: swiftly, neatly, methodically—some 24 consecutive times. In the space of three years, overnight rates fell from 8 percent to 3 percent, the lowest rate since the sixties.37
Was 24 rate cuts overdoing it? During this time Greenspan pumped cash into the economy, buying Treasuries with Federal Reserve money. Before long the market was awash in cash. As the Fed poured money into the system, it raised the nation’s immediate cash supply by over 12 percent in one year—the fastest one-year growth in history.
It was Greenspan’s great good luck, observed Fed watcher Martin Mayer, that the people with that extra cash bought stock rather than goods and services. If they had poured the money into new cars, furniture, and clothes, inflation might have heated up. But “instead of consumer price inflation, the United States got asset price inflation”: stock prices rose.38 Asset inflation seemed, to many, benign—at least at the time.
Certainly, the Bush administration did not feel that the Fed was moving too aggressively. To the contrary, the White House agonized over how long the process was taking. The economy had slipped into a recession, and the banking system was beginning to wobble under the weight of bad debts. Throughout the eighties, newly deregulated S&Ls had been swallowing junk bonds whole, while making billions in bad real estate loans, and the failure of the Bank of New England, early in 1991, made it clear just how dire the situation had become.
Once again, it was Bill Seidman, now head of FDIC, who was brought in to mop up a Washington mess. Seidman broke the bad news to the nation in his inimitable, straightforward fashion: “My friends,” he said, “there is good news and bad news. The good news is that the full faith and credit of the FDIC and the U.S. government stands behind your money at the bank. But the bad news is that you, my fellow taxpayers, stand behind the U.S. government.”39 The S&L fiasco would cost taxpayers hundreds of billions of dollars, and Seidman’s refusal to sugarcoat that fact infuriated many in the White House.
The administration’s initial reaction was to try to downplay the seriousness of the crisis. When Treasury Secretary Nicholas Brady suggested that Washington might be able to bail out the S&Ls by charging for FDIC insurance—say 30 cents for every $100 that a bank customer deposited in his savings account—Seidman made it clear that he did not think much of the idea of penalizing savers for the S&L’s sins. “It’s the reverse toaster theory,” he deadpanned. “Instead of the bank giving you a toaster when you make a deposit, you give them one.”40
The administration did not appreciate Seidman’s puckish humor. John Sununu, President Bush’s chief of staff, “went ballistic,” an interested spectator at the FDIC confided. “The next day, he stormed into a staff meeting and said, ‘This proves it. Bill Seidman is not a team player’—he went on and on….”41 But Seidman knew that the longer the politicians tried to downplay the fiasco by pretending that everything was under control, the more it would cost taxpayers in the long run. And he said so publicly. A straight shooter, Seidman managed to build credibility in Congress, where he was trusted by politicians on both sides of the aisle. In 1990, when the White House tried to oust him, Congress was enraged. It is a tribute to Seidman’s skills as a politician that he survived.
In contrast to Seidman, Greenspan was a “team player,” and now the Fed chairman rode to the rescue of the banks. The bad real estate loans made by the S&Ls were not the bankers’ only problem. Junk bond issuers were beginning to default, while May of 1991 brought news of rising delinquencies in Citicorp’s consumer-loan portfolio. In October, Citicorp itself stopped paying a dividend to its shareholders, and in December, the bank’s stock closed below $10 a share—for the first time in 11 years. “It was on the day of the low trade in Citicorp, in fact, that the Fed uncharacteristically took a big step instead of a little one,” noted Jim Grant in The Trouble with Prosperity.42 On December 20, 1991, the Fed took an ax to the federal funds rate, whacking it by a full 1 percent, thereby bringing it down to 3.5 percent.
By slashing short-term rates, the Fed chairman opened up a gap between short-term and long-term rates that gave banks like Citicorp breathing room. When banks borrow, they pay short-term rates; when they make loans, they typically charge long-term rates. As Greenspan trimmed short-term rates, the spread between short rates and long rates widened, and banks were able to make a nice profit on the difference between what they paid when they borrowed money (for instance, the interest that they paid to customers who deposited money in bank savings accounts) and the rate they made when they lent the money out (mortgage rates, for instance, were often tied to long-term rates).
In Grant’s view, “It was a short inferential hop to the conclusion that the Fed was [now] running monetary policy for the express purpose of bailing out Citi in particular, the banking system in general, and Wall Street in toto.”43
On Wall Street, Abby Cohen and Steve Einhorn began to see hope. On the Potomac, the Bush administration was well pleased with the one-point cut. In Boston, Ned Johnson, the head of Fidelity investments, and daughter Abby, who helped run the family fiefdom, must have been turning somersaults. Lower short-term rates drove small investors out of bank savings accounts—and into the waiting arms of the mutual fund industry. 1993 would be the best year on record fo
r the industry, as some 700 new funds opened their doors.
As for Greenspan himself, he had set a precedent for his tenure as Fed chairman: from now on, he would be the guy who rode to the rescue. So much for his laissez-faire philosophy. When he cut rates 24 times from 1989 to 1992, Greenspan established a pattern. In times of financial crisis, he could be counted on to pump liquidity into the financial system, providing enough cash—and, more important, enough confidence—to assure those who ran the system that they could backstroke their way out of almost any fiscal problem. At least that is what many believed.
The one person Greenspan did not save was President George H. W. Bush. In January of 1992, the president’s second term seemed all but sewn up. The election was 10 months away and no one knew the Democratic candidate’s name. Certainly, Greenspan had done his best by lopping a full point off short-term rates at the end of 1991. There was just one ominous note: only 50 percent of all shareholders gave the president a “favorable” rating—down from 70 percent a year earlier—while Alan Greenspan, his Fed chairman, won favor from 80 percent of those citizens who bought stock.44 It seemed that voters still blamed the president for the recession.
Many in the Bush administration would say that Alan Greenspan betrayed them: the rate cuts did not come soon enough. Whatever the case, on Election Day, November 1992, the malaise of a recession still hanging over Main Street, Americans voted with their pocketbooks. Bill Clinton’s slogan “It’s the Economy, Stupid!” carried the day.