The Financial Tsunami
Part III: Greenspan's Grand Design
F. William Engdahl
Jan 24, 2008
The Long-Term Greenspan Agenda
Seven years of Volcker monetary
"shock therapy" had ignited a payments crisis across
the Third World. Billions of dollars in recycled petrodollar
debts loaned by major New York and London banks to finance oil
imports after the oil price rises of the 1970's, suddenly became
The stage was now set for the
next phase in the Rockefeller financial deregulation agenda.
It was to come in the form of a revolution in the very nature
of what would be considered money - the Greenspan "New Finance"
Many analysts of the Greenspan
era focus on the wrong facet of his role, and assume he was primarily
a public servant who made mistakes, but in the end always saved
the day and the nation's economy and banks, through extraordinary
feats of financial crisis management, winning the appellation,
Maestro. [ 1 ]
Maestro serves the Money Trust
Alan Greenspan, as every Chairman
of the Board of Governors of the Federal Reserve System was a
carefully-picked institutionally loyal servant of the actual
owners of the Federal Reserve: the network of private banks,
insurance companies, investment banks which created the Fed and
rushed in through an almost empty Congress the day before Christmas
recess in December 1913. In Lewis v. United States, the
United States Court of Appeals for the Ninth Circuit stated that
"the Reserve Banks are not federal instrumentalities...
but are independent, privately owned and locally controlled corporations."
[ 2 ]
Greenspan's entire tenure as
Fed chairman was dedicated to advancing the interests of American
world financial domination in a nation whose national economic
base was largely destroyed in the years following 1971.
Greenspan knew who buttered
his bread and loyally served what the US Congress in 1913 termed
"the Money Trust," a cabal of financial leaders abusing
their public trust to consolidate control over many industries.
Interestingly, many of the
financial actors behind the 1913 creation of the Federal Reserve
are pivotal in today's securitization revolution including Citibank,
and J.P. Morgan. Both have share ownership of the key New York
Federal Reserve Bank, the heart of the system.
Another little-known shareholder
of the New York Fed is the Depository Trust Company (DTC), the
largest central securities depository in the world. Based in
New York, the DTC custodies more than 2.5 million US and non-US
equity, corporate, and municipal debt securities issues from
over 100 countries, valued at over $36 trillion. It and its affiliates
handle over $1.5 quadrillion of securities transactions a year.
That's not bad for a company that most people never heard of.
The Depository Trust Company has a sole monopoly on such business
in the USA. They simply bought up all other contenders. It suggests
part of the reason New York was able for so long to dominate
global financial markets, long after the American economy had
become largely a hollowed-out "post-industrial" wasteland.
While free market purists and
dogmatic followers of Greenspan's late friend, Ayn Rand, accuse
the Fed Chairman of hands-on interventionism, in reality there
is a common thread running through each major financial crisis
of his 18 plus years as Fed chairman. He managed to use each
successive financial crisis in his eighteen years as head of
the world's most powerful financial institution to advance and
consolidate the influence of US-centered finance over the global
economy, almost always to the severe detriment of the economy
and broad general welfare of the population.
In each case, be it the October
1987 stock crash, the 1997 Asia Crisis, the 1998 Russian state
default and ensuing collapse of LTCM, to the refusal to make
technical changes in Fed-controlled stock margin requirements
to cool the dot.com stock bubble, to his encouragement of ARM
variable rate mortgages (when he knew rates were at the bottom),
Greenspan used the successive crises, most of which his widely-read
commentaries and rate policies had spawned in the first place,
to advance an agenda of globalization of risk and liberalization
of market regulations to allow unhindered operation of the major
The Rolling Crises Game
This is the true significance
of the crisis today unfolding in US and global capital markets.
Greenspan's 18 year tenure can be described as rolling the financial
markets from successive crises into ever larger ones, to accomplish
the over-riding objectives of the Money Trust guiding the Greenspan
agenda. Unanswered at this juncture is whether Greenspan's securitization
revolution was a "bridge too far," spelling the end
of the dollar and of dollar financial institutions' global dominance
for decades or more to come.
Greenspan's adamant rejection
of every attempt by Congress to impose some minimal regulation
on OTC derivatives trading between banks; on margin requirements
on buying stock on borrowed money; his repeated support for securitization
of sub-prime low quality high-risk mortgage lending; his relentless
decade-long push to weaken and finally repeal Glass-Steagall
restrictions on banks owning investment banks and insurance companies;
his support for the Bush radical tax cuts which exploded federal
deficits after 2001; his support for the privatization of the
Social Security Trust Fund in order to funnel those trillions
of dollars cash flow into his cronies in Wall Street finance
- all this was a well-planned execution of what some today call
the securitization revolution, the creation of a world of New
Finance where risk would be detached from banks and spread across
the globe to the point no one could identify where real risk
When he came in 1987 again
to Washington, Alan Greenspan, the man hand-picked by Wall Street
and the big banks to implement their Grand Strategy was a Wall
Street consultant whose clients numbered the influential J.P.
Morgan Bank among others. Before taking the post as head of the
Fed, Greenspan had also sat on the boards of some of the most
powerful corporations in America, including Mobil Oil Corporation,
Morgan Guaranty Trust Company and JP Morgan & Co. Inc. His
first test would be the manipulation of stock markets using the
then-new derivatives markets in October 1987.
The 1987 Greenspan paradigm
In October 1987 when Greenspan
led a bailout of the stock market after the October 20 crash,
by pumping huge infusions of liquidity to prop up stocks and
engaging in behind-the-scene manipulations of the market
via Chicago stock index derivatives purchases backed quietly
by Fed liquidity guarantees. Since that October 1987 event, the
Fed has made abundantly clear to major market players that they
were, to use Fed jargon, TBTF - Too Big To Fail. No worry if
a bank risked tens of billions speculating in Thai baht or dot.com
stocks on margin. If push came to liquidity shove, Greenspan
made clear he was there to bail out his banking friends.
The October 1987 crash which
saw the sharpest one day fall in the Dow Industrials in history
- 508 points - was exacerbated by new computer trading models
based on the so-called Black-Sholes [Scholes] Option Pricing theory, stock share derivatives
now being priced and traded just as hog belly futures had been
The 1987 crash made clear was
that there was no real liquidity in the markets when it was needed.
All fund managers tried to do the same thing at the same time:
to sell short the stock index futures, in a futile attempt to
hedge their stock positions.
According to Stephen Zarlenga,
then a trader who was in the New York trading pits during the
crisis days in 1987, "They created a huge discount in the
futures market... The arbitrageurs who bought futures from them
at a big discount, turned around and sold the underlying stocks,
pushing the cash markets down, feeding the process and eventually
driving the market into the ground."
Zarlenga continued, "Some
of the biggest firms in Wall Street found they could not stop
their pre-programmed computers from automatically engaging in
this derivatives trading. According to private reports they had
to unplug or cut the wiring to computers, or find other ways
to cut off the electricity to them (there were rumors about fireman's
axes from hallways being used), for they couldn't be switched
off and were issuing orders directly to the exchange floors.
"The New York Stock Exchange
at one point on Monday and Tuesday seriously considered closing
down entirely for a period of days or weeks and made this public...
It was at this point that Greenspan made an uncharacteristic
announcement. He said in no uncertain terms that the Fed would
make credit available to the brokerage community, as needed.
This was a turning point, as Greenspan's recent appointment as
Chairman of the Fed in mid 1987 had been one of the early reasons
for the market's sell off." [ 3 ]
What was significant about
the October 1987 one-day crash was not the size of the fall.
It was the fact that the Fed, unannounced to the public, intervened
through Greenspan's trusted New York bank cronies at J.P. Morgan
and elsewhere on October 20 to manipulate a stock recovery through
use of new financial instruments called derivatives.
The visible cause of the October
1987 market recovery was when the Chicago-based MMI future (Major
Market Index) of NYSE blue chip stocks began to trade at a premium,
midday Tuesday, at a time when one after another Dow stock had
been closed down for trading.
The meltdown began to reverse.
Arbitrageurs bought the underlying stocks, re-opening them, and
sold the MMI futures at a premium. It was later found that only
about 800 contracts bought in the MMI futures was sufficient
to create the premium and start the recovery. Greenspan and his
New York cronies had engineered a manipulated recovery using
the same derivatives trading models in reverse. It was the dawn
of the era of financial derivatives.
Historically, at least most
were led to believe, the role of the Federal Reserve, the Comptroller
of the Currency among others, was to act as independent supervisors
of the largest banks to insure stability of the banking system
and prevent a repeat of the bank panics of the 1930's, above
all in the Fed's role as "lender of last resort."
Under the Greenspan regime,
after October 1987 the Fed increasingly became the "lender
of first resort," as the Fed widened the circle of financial
institutions worthy of the Fed's rescue from banks directly -
which was the mandated purview of Fed bank supervision - to the
artificial support of stock markets as in 1987, to the bailout
of hedge funds as in the case of the Long-Term Capital Management
hedge fund solvency crisis in September 1998.
Greenspan's last legacy will
be leaving the Fed and with it the American taxpayer with the
role as Lender of Last Resort, to bail out the major banks and
financial institutions, today's Money Trust, after the meltdown
of his multi-trillion dollar mortgage securitization bubble.
By the time of repeal of Glass-Steagall
in 1999, an event of historic importance that was buried in the
financial back pages, the Greenspan Fed had made clear it would
stand ready to rescue the most risky and dubious new ventures
of the US financial community. The stage was set to launch the
Greenspan securitization revolution.
It was not accidental, or ad
hoc in any way. The Fed laissez faire policy towards supervision
and bank regulation after 1987 was crucial to implement the broader
Greenspan deregulation and financial securitization agenda he
hinted at in his first October 1987 Congressional testimony.
On November 18, 1987, only
three weeks after the October stock crash, Alan Greenspan told
the US House of Representatives Committee on Banking, "...repeal
of Glass-Steagall would provide significant public benefits consistent
with a manageable increase in risk." [ 4 ]
Greenspan would repeat this
mantra until final repeal in 1999.
The support of the Greenspan
Fed for unregulated treatment of financial derivatives after
the 1987 crash was instrumental in the global explosion in nominal
volumes of derivatives trading. The global derivatives market
grew by 23,102% since 1987 to a staggering $370 trillion by end
of 2006. The nominal volumes were incomprehensible.
Destroying Glass-Steagall restrictions
One of Greenspan's first acts
as Chairman of the Fed was to call for repeal of the Glass-Steagall
Act, something which his old friends at J.P.Morgan and Citibank
had ardently campaigned for. [ 5 ]
the Banking Act of 1933, introduced the separation of commercial
banking from Wall Street investment banking and insurance. Glass-Steagall
originally was intended to curb three major problems that led
to the severity of the 1930's wave of bank failures and depression:
Banks were investing their
own assets in securities with consequent risk to commercial and
savings depositors in event of a stock crash. Unsound loans were
made by the banks in order to artificially prop up the price
of select securities or the financial position of companies in
which a bank had invested its own assets. A bank's financial
interest in the ownership, pricing, or distribution of securities
inevitably tempted bank officials to press their banking customers
into investing in securities which the bank itself was under
pressure to sell. It was a colossal conflict of interest and
invitation to fraud and abuse.
Banks that offered investment
banking services and mutual funds were subject to conflicts of
interest and other abuses, thereby resulting in harm to their
customers, including borrowers, depositors, and correspondent
banks. Similarly, today, with no more Glass-Steagall restraints,
banks offering securitized mortgage obligations and similar products
via wholly owned Special Purpose Vehicles they create to get
the risk "off the bank books," are complicit in what
likely will go down in history as the greatest financial swindle
of all times - the sub-prime securitization fraud.
In his history of the Great
Crash, economist John Kenneth Galbraith noted, "Congress
was concerned that commercial banks in general and member banks
of the Federal Reserve System in particular had both aggravated
and been damaged by stock market decline partly because of their
direct and indirect involvement in the trading and ownership
of speculative securities.
"The legislative history
of the Glass-Steagall Act," Galbraith continued, "shows
that Congress also had in mind and repeatedly focused on the
more subtle hazards that arise when a commercial bank goes beyond
the business of acting as fiduciary or managing agent and enters
the investment banking business either directly or by establishing
an affiliate to hold and sell particular investments." Galbraith
noted that "During 1929 one investment house, Goldman, Sachs
& Company, organized and sold nearly a billion dollars' worth
of securities in three interconnected investment trusts - Goldman
Sachs Trading Corporation; Shenandoah Corporation; and Blue Ridge
Corporation. All eventually depreciated virtually to nothing."
The major New York money-center
banks had long had in mind the rollback of that 1933 Congressional
restriction. And Alan Greenspan as Fed Chairman was their man.
The major money-center US banks, led by Rockefeller's influential
Chase Manhattan Bank and Sanford Weill's Citicorp, spent over
one hundred hundreds million dollars lobbying and making campaign
contributions to influential Congressmen to get deregulation
of the Depression-era restrictions on banking and stock underwriting.
That repeal opened the floodgates
to the securitization revolution after 2001.
Within two months of taking
office, on October 6, 1987, just days before the greatest one-day
crash on the New York Stock Exchange, Greenspan told Congress,
that US banks, victimized by new technology and ''frozen'' in
a regulatory structure developed more than 50 years ago, were
losing their competitive battle with other financial institutions
and needed to obtain new powers to restore a balance: ''The basic
products provided by banks - credit evaluation and diversification
of risk - are less competitive than they were 10 years ago.''
At the time the New York
Times noted that "Mr. Greenspan has long been far more
favorably disposed toward deregulation of the banking system
than was Paul A. Volcker, his predecessor at the Fed." [ 6 ]
That October 6, 1987 Greenspan
testimony to Congress, his first as Chairman of the Fed, was
of signal importance to understand the continuity of policy he
was to implement right to the securitization revolution of recent
years, the New Finance securitization revolution. Again quoting
the New York Times account, "Mr. Greenspan, in decrying
the loss of the banks' competitive edge, pointed to what he said
was a 'too rigid' regulatory structure that limited the availability
to consumers of efficient service and hampered competition. But
then he pointed to another development of 'particular importance'
- the way advances in data processing and telecommunications
technology had allowed others to usurp the traditional role of
the banks as financial intermediaries. In other words, a bank's
main economic contribution - risking its money as loans based
on its superior information about the creditworthiness of borrowers
- is jeopardized."
The Times quoted Greenspan
on the challenge to modern banking posed by this technological
change: 'Extensive on-line data bases, powerful computation capacity
and telecommunication facilities provide credit and market information
almost instantaneously, allowing the lender to make its own analysis
of creditworthiness and to develop and execute complex trading
strategies to hedge against risk,' Mr. Greenspan said. This,
he added, resulted in permanent damage 'to the competitiveness
of depository institutions and will expand the competitive advantage
of the market for securitized assets,' such as commercial paper,
mortgage pass-through securities and even automobile loans."
He concluded, 'Our experience
so far suggests that the most effective insulation of a bank
from affiliated financial or commercial activities is achieved
through a holding-company structure.' [ 7 ]
In a bank holding company, the Federal Deposit Insurance fund,
a pool of contributions to guarantee bank deposits up to $100,000
per account, would only apply to the core bank, not to the various
subsidiary companies created to engage in exotic hedge fund or
other off-the-balance-sheet activities. The upshot was that in
a crisis such as the unraveling securitization meltdown, the
ultimate Lender of Last Resort, the insurer of bank risk becomes
the American public taxpayer.
It was a hard fight in Congress
and lasted until final full legislative repeal under Clinton
in 1999. Clinton presented the pen he used in November 1999 to
sign the repeal act, the Gramm-Leach-Bliley Act, into law as
a gift to Sanford Weill, the powerful chairman of Citicorp, a
curious gesture for a Democratic President, to say the least.
The man who played the decisive
role in moving Glass-Steagall repeal through Congress was Alan
Greenspan. Testifying before the House Committee on Banking and
Financial Services, February 11, 1999, Greenspan declared, "we
support, as we have for many years, major revisions, such as
those included in H.R. 10, to the Glass-Steagall Act and the
Bank Holding Company Act to remove the legislative barriers
against the integration of banking, insurance, and securities
activities. There is virtual unanimity among all concerned--private
and public alike--that these barriers should be removed. The
technologically driven proliferation of new financial products
that enable risk unbundling have been increasingly combining
the characteristics of banking, insurance, and securities products
into single financial instruments."
In his same 1999 testimony
Greenspan made clear repeal meant less, not more regulation of
the newly-allowed financial conglomerates, opening the floodgate
to the current fiasco: "As we move into the twenty-first
century, the remnants of nineteenth-century bank examination
philosophies will fall by the wayside. Banks, of course, will
still need to be supervised and regulated, in no small part because
they are subject to the safety net. My point is, however, that
the nature and extent of that effort need to become more consistent
with market realities. Moreover, affiliation with banks need
not--indeed, should not--create bank-like regulation of affiliates
of banks." [ 8 ] (Italics mine -f.w.e.)
Breakup of bank holding companies
with their inherent conflict of interest, which led tens of millions
of Americans into joblessness and home foreclosures in the 1930's
depression, was precisely why Congress passed Glass-Steagall
in the first place.
unimaginable a decade ago...'
The New York Times described
the new financial world created by repeal of Glass-Steagall in
a June 2007 profile of Goldman Sachs, just weeks prior to the
eruption of the sub-prime crisis: "While Wall Street still
mints money advising companies on mergers and taking them public,
real money - staggering money - is made trading and investing
capital through a global array of mind-bending products and strategies
unimaginable a decade ago." They were referring to the securitization
The Times quoted Goldman
Sachs chairman Lloyd Blankfein on the new financial securitization,
hedge fund and derivatives world: "We've come full circle,
because this is exactly what the Rothschilds or J. P. Morgan,
the banker were doing in their heyday. What caused an aberration
was the Glass-Steagall Act." [ 9 ]
Blankfein as most of Wall Street
bankers and financial insiders saw the New Deal as an aberration,
openly calling for return to the days J. P. Morgan and other
tycoons of the 'Gilded Age' of abuses in the 1920's. Glass-Steagall,
Blankfein's "aberration" was finally eliminated because
of Bill Clinton. Goldman Sachs was a prime contributor to the
Clinton campaign and even sent Clinton its chairman Robert Rubin
in 1993, first as "economic czar" then in 1995 as Treasury
Secretary. Today, another former Goldman Sachs chairman, Henry
Paulson is again US Treasury Secretary under Republican Bush.
Money power knows no party.
Robert Kuttner, co-founder
of the Economic Policy Institute, testified before US Congressman
Barney Frank's Committee on Banking and Financial Services in
October 2007, evoking the specter of the Great Depression:
"Since repeal of Glass
Steagall in 1999, after more than a decade of de facto inroads,
super-banks have been able to re-enact the same kinds of structural
conflicts of interest that were endemic in the 1920s - lending
to speculators, packaging and securitizing credits and then selling
them off, wholesale or retail, and extracting fees at every step
along the way. And, much of this paper is even more opaque to
bank examiners than its counterparts were in the 1920s. Much
of it isn't paper at all, and the whole process is supercharged
by computers and automated formulas." [ 10 ]
Dow Jones Market Watch
commentator Thomas Kostigen, writing in the early weeks of the
unraveling sub-prime crisis, remarked about the role of Glass-Steagall
repeal in opening the floodgates to fraud, manipulation and the
excesses of credit leverage in the expanding world of securitization:
"Time was when banks
and brokerages were separate entities, banned from uniting for
fear of conflicts of interest, a financial meltdown, a monopoly
on the markets, all of these things.
"In 1999, the law banning
brokerages and banks from marrying one another - the Glass-Steagall
Act of 1933 - was lifted, and voila, the financial supermarket
has grown to be the places we know as Citigroup, UBS, Deutsche
Bank, et al. But now that banks seemingly have stumbled over
their bad mortgages, it's worth asking whether the fallout would
be wreaking so much havoc on the rest of the financial markets
had Glass-Steagall been kept in place.
"Diversity has always
been the pathway to lowering risk. And Glass-Steagall kept diversity
in place by separating the financial powers that be: banks and
brokerages. Glass-Steagall was passed by Congress to prohibit
banks from owning full-service brokerage firms and vice versa
so investment banking activities, such as underwriting corporate
or municipal securities, couldn't be called into question and
also to insulate bank depositors from the risks of a stock market
collapse such as the one that precipitated the Great Depression.
"But as banks increasingly
encroached upon the securities business by offering discount
trades and mutual funds, the securities industry cried foul.
So in that telling year of 1999, the prohibition ended and financial
giants swooped in. Citigroup led the way and others followed.
We saw Smith Barney, Salomon Brothers, PaineWebber and lots of
other well-known brokerage brands gobbled up.
"At brokerage firms
there are supposed to be Chinese walls that separate investment
banking from trading and research activities. These separations
are supposed to prevent dealmakers from pressuring their colleague
analysts to give better results to clients, all in the name of
increasing their mutual bottom line.
"Well, we saw how well
these walls held up during the heyday of the dot-com era when
ridiculously high estimates were placed on corporations that
happened to be underwritten by the same firm that was also trading
its securities. When these walls were placed within their new
bank homes, cracks appeared and - it looks ever so apparent -
"No one really questioned the new fad
of collateralizing bank mortgage debt into different types of
financial instruments and selling them through a different arm
of the same institution. They are now...
"When banks are being
scrutinized and subject to due diligence by third-party securities
analysts more questions are raised than when the scrutiny is
by people who share the same cafeteria. Besides, fees, deals
and the like would all be subject to salesmanship, which means
people would be hammering prices and questioning things much
more to increase their own profit - not working together to increase
their shared bonus pool.
have at least provided what the first of its names portends:
transparency. And that is best accomplished when outsiders are
peering in. When every one is on the inside looking out, they
have the same view. That isn't good because then you can't see
things coming (or falling) and everyone is subject to the roof
"Congress is now investigating
the subprime mortgage debacle. Lawmakers are looking at tightening
lending rules, holding secondary debt buyers responsible for
abusive practices and, on a positive note, even bailing out some
homeowners. These are Band-Aid measures, however, that won't
patch what's broken: the system of conflicts that arise when
sellers, salesmen and evaluators are all on the same team." (emphasis mine --f.w.e.)
Greenspan's dot.com bubble and its
Before the ink was dry on Bill
Clinton's signature repealing Glass-Steagall, the Greenspan fed
was fully engaged in hyping their next crisis-the deliberate
creation of a stock bubble to rival that of 1929, a bubble which
then, subsequently the Fed would pop just as deliberately.
The 1997 Asia financial crisis
and the ensuing Russian state debt default of August 1998 created
a sea-change in global capital flows to the advantage of the
dollar. With Korea, Thailand, Indonesia and most emerging markets
in flames following a coordinated, politically-motivated attack
by a trio of US hedge funds, led by Soros' Quantum Fund, James
Robertson's Jaguar and Tiger funds and Moore Capital Management,
as well as, according to reports, the Connecticut-based LTCM
hedge fund of John Merriweather.
The impact of the Asia crisis
on the dollar was notable and suspiciously positive. Andrew Crockett,
the General Manager of the Bank for International Settlements,
the Basle-based organization of the world's leading central banks,
noted that while the East Asian countries had run a combined
current account deficit of $33 billion in 1996, as speculative
hot money flowed in, "1998-1999, the current account swung
to a surplus of $87 billion." By 2002 it had reached the
impressive sum of $200 billion. Most of that surplus returned
to the US in the form of Asian central bank purchases of US Treasury
debt, in effect financing Washington policies, pushing US interest
rates way down and fuelling an emerging New Economy, the NASDAQ
dot.com New Economy IT boom. [ 12 ]
During the extremes of the
1997-1998 Asia financial crises, Greenspan refused to act to
ease the financial pressures until Asia had collapsed and Russia
had defaulted in August 1998 on its sovereign debt and deflation
had spread from region to region. Then, as he and the New York
Fed stepped in to rescue the huge LTCM hedge fund that had become
insolvent as a result of the Russia crisis, Greenspan made an
unusually sharp cut in Fed Funds interest rates for the first
time, by 0.50%. That was followed a few weeks later by a 0.25%
cut. That gave the nascent dot.com NASDAQ IT bubble a nice little
"shot of whiskey."
By late 1998, amid successive
cuts in Fed interest rates and pumping in of ample liquidity,
the US stock markets, led by the NASDAQ and NYSE, went asymptotic.
In the single year 1999, as the New Economy bubble got into full-swing,
a staggering $2.8 trillion increase in the value of equity shares
owned by US households was registered. That was more than 25%
of annual GDP, all in paper values.
on banks and investment banks promoting the stocks they had brought
to market-the exact conflict of interest which prompted Glass-Steagall
in 1933-those restraints were gone. Wall Street stock promoters
were earning tens of millions in bonuses for fraudulently hyping
Internet and other stocks such as WorldCom and Enron. It was
the "Roaring 1920's" all over again, but with an electronic
computerized turbo charged kicker.
The incredible March 2000 speech
In March 2000, at the very
peak of the dot.com stock mania, Alan Greenspan delivered an
to a Boston College Conference on the New Economy in which he
repeated his by-then standard mantra in praise of the IT revolution
and the impact on financial markets. In this speech he went even
beyond previous praises of the IT stock bubble and its putative
"wealth effect" on household spending which he claimed
had kept the US economy growing robustly.
"In the last few years
it has become increasingly clear that this business cycle differs
in a very profound way from the many other cycles that have characterized
post-World War II America," Greenspan noted. "Not only
has the expansion achieved record length, but it has done so
with economic growth far stronger than expected."
He went on, waxing almost poetic:
"My remarks today will
focus both on what is evidently the source of this spectacular
performance -- the revolution in information technology... When
historians look back at the latter half of the 1990s a decade
or two hence, I suspect that they will conclude we are now living
through a pivotal period in American economic history... Those
innovations, exemplified most recently by the multiplying uses
of the Internet, have brought on a flood of startup firms, many
of which claim to offer the chance to revolutionize and dominate
large shares of the nation's production and distribution system.
And participants in capital markets, not comfortable dealing
with discontinuous shifts in economic structure, are groping
for the appropriate valuations of these companies. The exceptional
stock price volatility of these newer firms and, in the view
of some, their outsized valuations indicate the difficulty of
divining the particular technologies and business models that
will prevail in the decades ahead."
Then the Maestro got to his
real theme, the ability to spread risk by technology and the
Internet, a harbinger of his thinking about the then infant securitization
of information technology has been keenly felt in the financial
sector of the economy. Perhaps the most significant innovation
has been the development of financial instruments that enable
risk to be reallocated to the parties most willing and able to
bear that risk. Many of the new financial products that have
been created, with financial derivatives being the most notable,
contribute economic value by unbundling risks and shifting them
in a highly calibrated manner. Although these instruments cannot
reduce the risk inherent in real assets, they can redistribute
it in a way that induces more investment in real assets and,
hence, engenders higher productivity and standards of living.
Information technology has made possible the creation, valuation,
and exchange of these complex financial products on a global
evidence suggests that perhaps three to four cents out of every
additional dollar of stock market wealth eventually is reflected
in increased consumer purchases. The sharp rise in the amount
of consumer outlays relative to disposable incomes in recent
years, and the corresponding fall in the saving rate, is a reflection
of this so-called wealth effect on household purchases. Moreover,
higher stock prices, by lowering the cost of equity capital,
have helped to support the boom in capital spending.
by capital gains in equities and homes in excess of increases
in income, as best we can judge, have added about 1 percentage
point to annual growth of gross domestic purchases, on average,
over the past half-decade. The additional growth in spending
of recent years that has accompanied these wealth gains, as well
as other supporting influences on the economy, appears to have
been met in equal measure by increased net imports and by goods
and services produced by the net increase in newly hired workers
over and above the normal growth of the workforce, including
a substantial net inflow of workers from abroad. [ 13 ]
What is perhaps most incredible
was the timing of Greenspan's euphoric paean to the benefits
of the IT stock mania. He well knew that the impact of the six
interest rate increases he had instigated in late 1999 were sooner
or later going to chill the buying of stocks on borrowed money.
The dot-com bubble burst one
week after the Greenspan speech. On March 10, 2000, the NASDAQ
Composite index peaked at 5,048, more than double its value just
a year before. On Monday, March 13 the NASDAX fell by an eye-catching
Then, from March 13, 2000 through
to the market bottom, the market lost paper values worth nominally
more than $5 trillions, as Greenspan's rate hikes brought a brutal
end to a bubble he repeatedly claimed he could not confirm until
after the fact. In dollar terms, the 1929 stock crash was peanuts
by comparison with Greenspan's dot.com crash. Greenspan had raised
interest rates six times by March, a fact which had a brutal
chilling effect on the leveraged speculation in dot.com company
Stocks on margin: Regulation T
Again Greenspan had been present
every step of the way to nurture the dot.com stock "irrational
exuberance." When it was clear even to most ordinary members
of Congress that stock prices were soaring out of control, and
that banks and investment funds were borrowing tens of billions
of credit to buy more stocks "on margin," a call went
out for the Fed to exercise its power over stock margin buying
By February 2000, margin debt
had hit $265.2 billion, up 45 percent in just four months. Much
of the increase came from increased borrowing through online
brokers and was being channeled into the NASDAQ New Economy stocks.
Under Regulation T, the Fed
had the sole authority to set initial margin requirements for
the purchase of stocks on credit, which had been at 50% since
If the stock market were to
take a serious fall, margin calls would turn a mild downturn
into a crash. Congress believed that this was what happened in
1929, when margin debt equaled 30 percent of the stock market's
value. That was why it gave the Fed power to control initial
margin requirements in the Securities Act of 1934.
The requirement had been as
high as 100 percent, meaning that none of the purchase price
could be borrowed. Since 1974, it had been unchanged, at 50 percent,
allowing investors to borrow no more than half the purchase price
of equities directly from their brokers. By 2000 this margin
mechanism acted like gasoline poured on a raging bonfire.
Congressional hearings were
held on the issue. Investment managers such Paul McCulley of
the world's then-largest bond fund, PIMCO, told Congress, "The
Fed should raise that minimum, and raise it now. Mr. Greenspan
says "no," of course, because (1) he cannot find evidence
of a relationship between changes in margin requirements and
changes in the level of the stock market, and (2) because an
increase in margin requirements would discriminate against small
investors, whose only source of stock market credit is their
margin account." [ 14 ]
On the margin
But in the face of the obvious
1999-2000 US stock bubble, not only did Greenspan repeatedly
refuse to change stock margin requirements, but also in the late
1990s, the Fed chairman actually began to talk in glowing terms
about the New Economy, conceding that technology had helped increase
productivity. He was consciously fuelling the market's "irrational
Between June 1996 and June
2000, the Dow rose 93% and the NASDAQ rose 125%. The overall
ratio of stock prices to corporate earnings reached record highs
not seen since the days before the 1929 crash.
Then, in 1999, Greenspan initiated
a series of interest rate hikes, when inflation was even slower
than it was in 1996 and productivity was growing even faster.
But by refusing to tie rate rises to a rise in margin requirements,
which would clearly have signaled that the Fed was serious about
cooling the speculative bubble in stocks, Greenspan impacted
the economy with higher rates, evidently designed to increase
unemployment and press labor costs lower to further raise corporate
earnings, not to cool the stock buying frenzy of the New Economy.
Accordingly, the stock market ignored it.
Influential observers, including
financier George Soros and Stanley Fischer, deputy director at
the International Monetary Fund, advocated that the Fed let the
air out of the credit boom by raising margin requirements.
Greenspan refused this more
sensible strategy. At his re-confirmation hearing before the
US Senate Banking Committee in 1996, he said that he did not
want to discriminate against individuals who were not wealthy
and therefore needed to borrow in order to play the stock market
(sic). As he well knew, the traders buying stocks on margin were
mainly not poor and needy but professional traders out for a
free lunch, which Greenspan well knew. Interesting, however,
was that that was precisely the argument Greenspan would repeat
for justifying his advocacy of lending to sub-prime poor credit
persons, to let the poorer get in on the home ownership bonanza
his policies after 2001 had created. [ 15 ]
The stock market began to tumble
in the first half of 2000, not because labor costs were rising,
but because limits of investor credulity were finally reached.
The financial press including the Wall Street Journal,
which a year before was proclaiming dot.com executives as pioneers
of the new economy, were now ridiculing the public for having
believed that the stock of companies that would never make a
profit could go up forever.
The New Economy, as one Wall
Street Journal writer put it, now "looks like an old-fashioned
credit bubble." [ 16 ] In the second half
of that year, American consumers whose debt-to-income ratios
were at record highs, began to pull back. Christmas sales flopped,
and by early January 2001 Greenspan reversed himself and lowered
interest rates. In twelve successive rate cuts, the Greenspan
Fed brought US Fed funds rates, rates that determined short-term
and other interest rates in the economy, from 6% down to a post-war
low of 1% by June 2003.
Greenspan held Fed rates to
those historic lows, lows not seen for that length of time since
the Great Depression, until June 30, 2004, when he began the
first of what were to be fourteen successive rate increases before
he left office in 2006. He took Fed funds rates from the low
of 1% up to 4.5% in nineteen months. In the process, he killed
the bubble that was laying the real estate golden egg.
In speech after speech the
Fed chairman made clear that his ultra-easy money regime after
January 2001 had as prime focus the encouragement of investing
in home mortgage debt. The sub-prime phenomenon - something only
possible in the era of asset securitization and Glass-Steagall
repeal, combined with unregulated OTC derivatives trades - was
the predictable result of deliberate Greenspan policy. The close
scrutiny of the historical record makes that abundantly clear.
F. William Engdahl
Bob, Maestro: Alan Greenspan's Fed and the American Economic
Boom, Nov 2000. Woodward's book is an example of the charmed
treatment Greenspan was accorded by the major media. Woodward's
boss at the Washington Post, Catharine Meyer Graham, daughter
of the legendary Wall Street investment banker Andre Meyer, was
an intimate Greenspan friend. The book can be seen as a calculated
part of the Greenspan myth-creation by the influential circles
of the financial establishment.
2. Lewis vs United
States, 680 F.2d 1239 (9th Cir. 1982).
Stephen, Observations from the Trading Floor During the 1987
Crash, in http://www.monetary.org/1987%20crash.html.
Alan, Testimony before the Subcommittee on Financial Institutions
Supervision, US House of Representatives, Nov. 18, 1987. http://fraser.stlouisfed.org/historicaldocs/ag/download/27759/Greenspan_19871118.pdf.
5. Hershey jr.,
Robert D., Greenspan Backs New Bank Roles, The New York
Times, October 6, 1987.
6. Hershey, op.cit.
Alan, Statement by Alan Greenspan, Chairman, Board of Governors
of the Federal Reserve System, before the Committee on Banking
and Financial Services, U.S. House of Representatives, February
11, 1999, in Federal Reserve Bulletin, April 1999.
Jenny, Goldman Runs Risks, Reaps Rewards, The New York
Times, June 10, 2007.
Robert, Testimony of Robert Kuttner Before the Committee on
Financial Services, Rep. Barney Frank, Chairman, U.S. House
of Representatives, Washington, D.C., October 2, 2007
game: Would Glass-Steagall save the day from credit woes?,
Dow Jones MarketWatch, Sept. 7, 2007,
F. William, Hunting Asian Tigers: Washington and the 1997-98
Asia Shock, reprinted in:
Alan, The revolution in information technologyBefore the Boston
College Conference on the New Economy, Boston, Massachusetts,
March 6, 2000.
Paul, A Call For Fed Action: Hike Margin Requirements!,
testimony before The House Subcommittee on Domestic and International
Monetary Policy on March 21, 2000.
15. Alan Greenspan
as Fed chairman repeatedly asserted it was impossible to judge
if a speculative bubble existed during the rise of such a bubble.
In August 2002, after his clear strategy of Fed rate rises was
obvious to market players, he reiterated this: "We at the
Federal Reserve considered a number of issues related to asset
bubbles- - that is, surges in prices of assets to unsustainable
levels. As events evolved, we recognized that, despite our suspicions,
it was very difficult to definitively identify a bubble until
after the fact - -that is, when its bursting confirmed its existence.
---Alan Greenspan Remarks by Chairman Alan Greenspan Economic
volatility At a symposium sponsored by the Federal Reserve Bank
of Kansas City, Jackson Hole, Wyoming August 30, 2002.
16. Faux, Jeff,
The Politically Talented Mr. Greenspan, Dissent Magazine,
Jan 22, 2008
F. William Engdahl
Part 1: Deutsche
Bank's painful lesson
Part II: The Financial Foundations
of the American Century
F. William Engdahl
is the author of Seeds
The Hidden Agenda of Genetic Manipulation. Publication Launch:
23 November 2007.
He also authored
Century of War:
Anglo-American Oil Politics,'
Pluto Press Ltd.
He may be contacted
at his website, www.engdahl.oilgeopolitics.net.