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Avoiding Future Flaws and Shocks: Alan Greenspan's Unintended Legacy

Alan Greenspan died this week.

 

Throughout his career, particularly during his 18 years as Chairman of the Federal Reserve Board, Greenspan was beyond influential. Economically, politically, socially, and culturally, he guided leaders and manipulated levers that steered our world.

 

A personal tribute by Donald Kohn with The Brookings Institute is here, and an overview by Steve Matthews and Scott Lanman of Bloomberg News is here. A plethora of memorials are expected to follow, so I devote this space to a narrow but arguably most critical aspect of Greenspan’s leadership.

 

Greenspan has staunch fans and critics. I am neither but will take this opportunity to honor his contribution by transparently exploring a lesson Greenspan had to learn the hard way and for which most of the world suffered. If our economic and political ecosystems are smart and willing enough to apply the gift of Greenspan’s hard lesson, then we’ll be able to avoid future flaws that produce widespread suffering.

 

Greenspan’s Ideology

For all of us who didn't have direct experience with Greenspan, we can’t assume to know his ideology or intentions. The same is true of any person with whom we don’t have direct experience. But we can accept what Greenspan said and wrote, give the weight that seems reasonable to whatever creditable sources have written about him, and evaluate the results of his actions, just as we would with anyone else.

 

In his 1976 New York Times article, Right, For Ford, Joseph Kraft’s introduction to the 50-year-old Alan Greenspan includes, “Philosophically, he belongs to a cult—Ayn Rand’s Objectivism—scorned by many people as flaky.” Further in that article and regarding what Greenspan writes about his own ideology, Kraft reports:

In articles for Miss Rand's Objectivist Newsletter, he had opposed the anti‐trust law ("Inhibits businessmen from undertaking what would otherwise be sound productive ventures"); deficit spending ("a scheme for the ‘hidden’ confiscation of wealth"); and consumer protection laws ("It is precisely the ‘greed’ of the businessman or, more appropriately, his profit‐seeking which is the unexcelled protector of the consumer").

 

For today’s purpose, let’s just focus on that 'greed' ideology of Greenspan, "It is precisely the ‘greed’ of the businessman or, more appropriately, his profit‐seeking which is the unexcelled protector of the consumer" (emphasis added).

 

Greenspan influenced or orchestrated an earth-shaking amount of financial deregulation during his career, particularly as Fed Chair, before retiring in 2006. Among that deregulation was the repeal in 1999 of the Glass-Steagall Act. Recall, Glass-Steagall was a Depression-era law created to correct a number of flaws that led to the Depression. Among other goals, the act sought to limit the size of banks so that they didn’t become “too big to fail” and to limit their political influence, thus protecting typical consumer deposits from risks created by future financial speculators. Not too many years passed before we experienced the 2008 financial crisis (Great Recession), the worst since the Great Depression.


Image Credit: Arizona Daily Star


A Flaw in Greenspan’s Ideology

In October 2008, with the U.S. and world still reeling from the Great Recession, the U.S. House of Representative’s Committee on Oversight and Government Reform held a hearing titled, “The Financial Crisis and the Role of Federal Regulators.” Former Chairman of the Federal Reserve, Alan Greenspan, was called to testify.

 

A full transcript of that hearing, including Greenspan’s testimony, is available here. I point you to it so that you too may fact check the original source (and me) as I quote remarks by Greenspan, primarily in exchange with Committee Chairman Henry Waxman. Again, my focus is on the flaw of Greenspan’s long-standing ideology, namely, "It is precisely the ‘greed’ of the businessman or, more appropriately, his profit‐seeking which is the unexcelled protector of the consumer."

 

Mr. Greenspan: Thank you very much, Mr. Chairman. I appreciate having an extra few minutes, because I will run slightly over. I will try to do it as expeditiously as possible.

. . .

As I wrote last March, those of us who have looked to the self-interest of lending institutions to protect shareholders equity, myself especially, are in a state of shocked disbelief. Such counterparty surveillance is a central pillar of our financial markets' state of balance.

 

Chairman Waxman: Dr. Greenspan, I am going to interrupt you. The question I had for you is you had an ideology. You had a belief that free, competitive—and this is shown—your statement, ``I do have an ideology. My judgment is that free, competitive markets are by far the unrivaled way to organize economies. We have tried regulation, none meaningfully worked.''

    That was your quote. You have the authority to prevent irresponsible lending practices that led to the subprime mortgage crisis. You were advised to do so by many others. Now, our whole economy is paying its price. You feel that your ideology pushed you to make decisions that you wish you had not made?


Mr. Greenspan: Well, remember, though, whether or not ideology is, is a conceptual framework with the way people deal with reality. Everyone has one. You have to. To exist, you need an ideology.

    The question is, whether it exists is accurate or not. What I am saying to you is, yes, I found a flaw, I don't know how significant or permanent it is, but I have been very distressed by that fact. But if I may, may I just finish an answer to the question—


Chairman Waxman: You found a flaw?


Mr. Greenspan: I found a flaw in the model that I perceived is the critical functioning structure that defines how the world works, so to speak.


Chairman Waxman: In other words, you found that your view of the world, your ideology, was not right, it was not working.


Mr. Greenspan: Precisely. That's precisely the reason I was shocked, because I had been going for 40 years or more with very considerable evidence that it was working exceptionally well (emphasis added).

 

Toward the end of the hearing, John Sarbanes (Maryland) spoke to the flaw Greenspan identified in his ideology:


Mr. Sarbanes addressing Greenspan ...

    Now, I am about to run out of time. Let me just close with this observation, Mr. Chairman, if you will indulge me for a second.

    What concerns me, and I have read some of your writings, is you have conceded that there was a flaw in your ideology earlier today with respect to the situation of bad actors, right? But what you haven't conceded is I think a flaw in the ideology that suggests that the market will always punish the bad actors, or at least not allow for the fact that if you put a driver in a car and they drive recklessly, and maybe they have a car crash, it's going to punish them and maybe they will learn their lesson.

    But in the meantime, a lot of innocent bystanders can get run over. I think that's what happened. There's a lot of the American people out there who feel like innocent bystanders, and they have been hurt.

 

Not Continuing with the Flaw

As Alan Greenspan testified, he found a flaw in his Ayn Rand-influenced ideology, namely, "It is precisely the ‘greed’ of the businessman or, more appropriately, his profit‐seeking which is the unexcelled protector of the consumer." For those whose ideology runs too hot toward free markets (these days usually meaning unfettered) and laisse-faire government (these days usually meaning no interference with business and economic affairs), take three simple but important lessons from Greenspan’s shocked awakening: 1) Marketplace greed is not the consumer’s protector; 2) Our current financial markets do not self-regulate or punish financial abusers, especially if determined to be “too big to fail;” and 3) Systemic failures with widespread collateral damage will continue as long as self-centered ideology steers capitalism.

 

Our economic system, namely capitalism, is neither God-given nor a law of nature. It’s simply a human-created and managed system run by the ideology of those with the influence and power to assert their ideology. Alan Greenspan, for example. So, what happens when we’re driving capitalism with the wrong ideology? The system does in fact crash, and a lot of innocent bystanders do get damaged as we learned from Greenspan, his collaborators, and the 2008 financial crisis.

 

With credit to Greenspan and his shocked awakening, we can create a better capitalism by incorporating these lessons. In short, by rejecting an ideology of self-interest only and embracing an ideology of mutuality (self-interest and other-interest) as described by Adam Smith here and Rev. Dr. Martin Luther King, Jr. here, we can avoid the painful results of flawed economic thinking and practices.


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