Special Bulletin Archives

March 31, 2007: Former Fed Foreman Fears Future Fiscal Facade

On March 15, 2007, former Federal Reserve Chairman Alan Greenspan spoke at a Futures Industry Association conference in Boca Raton.  This bulletin was compiled from wire reports but, at some future date, a complete transcript of Mr. Greenspan's remarks should be made available at the FIA website. Link: www.futuresindustry.org

Greenspan repeated a warning about the massive strain on the U.S. budget and the economy in the future from the looming retirement of nearly 80 million baby boomers, who will draw benefits from Social Security and Medicare.

He called the pending retirements "one of the seminal events in the first part of the 21st century in the United States." (Seminal: containing or contributing the seeds of later development - Webster's)

Greenspan said as medical technologies advance, costs for services and medicine also will change.

"There is a significant probability that under existing law, that we have overpromised what will be available to Medicare recipients," he said (emphasis mine).

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10/03/2006
October 3, 2006: Four Feds Forecast Foremost Future Fears

Because of its critical importance in understanding the perilous fiscal issues facing the United States, I have reprinted below a partial transcript of a panel discussion last week featuring four of the nation's foremost federal reserve bankers, current and retired.  Thanks to Doug Noland's 09/29/2006 Credit Bubble Bulletin at PrudentBear.com.
Link: http://www.prudentbear.com/creditbubblebulletin.asp

The Women’s Economic Round Table sponsored a panel discussion Tuesday in New York that featured New York Federal Reserve Bank President Timothy Geithner, former NY Fed President and FOMC Chairman Paul Volcker, former NY Fed chief and FOMC vice-chairman Gerald Corrigan, and former NY Fed President William McDonough.  The discussion of monetary policymaking amongst some of our most seasoned central bankers ran the gamut from inflation, to asset bubbles, to communications, to LTCM and supervision.  I have extracted quotes from what I found to be (transcribing from a recording) an interesting and, at times, enlightening 90 minute discussion. 

Timothy Geithner:  “I should start by saying it’s a remarkable accomplishment to bring these three (Messrs. Volcker, Corrigan and McDonough) together... So we’ve each been fortunate to be part of a really great central bank, a great institution.  And I think I’ve heard each of these men say that they were proud to be part of the most important part of the most important central bank in the world.  Beyond their individual contributions to the New York Fed, of course, these three men, along with Tony Solomon and with Alan Greenspan, really helped define the modern doctrine of U.S. central banking. This is a doctrine that’s brought great benefits and practice to the U.S. economy over the last two decades. And it’s been hugely influential around the world.  And it remains in place today. And I want to just say a few words in tribute to them about the key tenets of this doctrine, about the elements that distinguish their reign, their reign in the Fed. 

They recognize, of course, that central bank credibility is vital; it’s hard to earn, costly to lose. Credibility depends critically on the confidence we engender that we will keep inflation low. But credibility is more complicated than that. It depends on the confidence we engender in our capacity to understand the forces operating on our economy. It depends on how, not just whether, we achieve price stability.

These men recognized, of course, that the Fed has important responsibilities beyond the conduct of monetary policy - that the Fed was given, at its inception, a very important role in the financial system in defining the appropriate balance between innovation and resilience, between efficiency and stability, and our capacity to contain risk.  Systemic risk today depends a lot on how wisely we are in executing our supervisory responsibilities and how robust we make the infrastructure that underpins financial markets and how close we are to markets in understanding innovation at the frontier and then our willingness to act with speed and force when financial distress might threaten the overall performance of the economy. 

They recognized also that while monetary policy is critical to how well the U.S. economy performs, the overall level of economic performance - the quality of growth in the United States - depends on policies outside the province of the Federal Reserve. It depends on the environment government creates for risk-taking and innovation, on the quality of education, on how open we are to the rest of the world, and on the broad stance of fiscal policy.  They each spent capital in trying to make the case for better policies in these areas, and their personal credibility made them influential voices even if their governments they served with did not always defer to their judgment. 

They recognize that U.S. policies have a huge impact on the rest of the world and that the fortunes of the world matter more and more to the fortunes of the United States.  They made huge personal investments in building a strong network of relationships with financial officials and market participants around the world. And their tenures in office, of course, were defined in important ways by what they did to help resolve financial crises outside as well as inside the United States…” 

Question (Terri Thompson):  “I would like to ask this question of all three previous Presidents.  Central bankers are often characterized as overprotective - the overprotective mothers of the global economy - because they worry so much.  So my question for you is, what are the two or three things that worry you most today?”

William McDonough:  “The thing that worries me most, in fact, the only thing that worries me a great deal - are what are popularly called the global imbalances. The United States of America last year needed to import $800 billion of other people’s savings; six and a half percent of gross domestic product.  Unlike the days of yore when it was rich countries that were exporting savings to poor countries, it is now emerging market countries - China, Brazil - which are not investing enough in their own societies and sending money to the United States. It seems to be a good deal. We are the importer of last resort. They want to export things. We have very well developed financial markets - very creative financial services companies.  And, so we are the place to invest of last resort.

In my view, this is not in the interest of the United States. We are a country that has a very serious problem with our aging population, of which I’m part. The Social Security system and the Medicare system on an actuarial basis are both in deep bankruptcy. Therefore, it is not appropriate for us as a society to be living higher than we should on other people’s savings from poor countries. China has 400 million people living below the poverty line; 800 million people living in poor rural areas.  It makes no sense that they have a trillion dollars in reserves and that we, the people of the United States, are living better as a result of it. We have to do a better job. They have to do a better job in managing their economies. This is a situation which, left to its own devices, is one that will hit a brick wall. The only question is when.”

Gerald Corrigan:  “The first point I would make is related somewhat to the one Bill just made – its kind of the other side of it.  That is that the United States savings rate is virtually zero. The household saving rate is negative. And for the reasons that Bill mentioned and a whole bunch of other reasons as well, this is a potentially very dangerous situation, not only in terms of economic and financial terms, but it brings with it, I think, some potentially very serious problems down the road in terms of the well being of our own citizens. You know, as I said, that’s very closely related to Bill’s point about imbalances.  

The second thing that I would mention is I think there is what I will describe as a small risk that the old inflation genie could sneak out of a bottle on us again. I emphasize that I think that is a very small risk, but if there’s one thing I think I’ve learned in the 40 years it is now in the financial fights that is once the genie is out of the bottle, it’s very, very difficult and expensive to put it back in the bottle. 

I would just add to both of those points, whether it’s inflation or imbalances or savings, the other thing you have to be very cognizant of is that these kinds of problems clearly have potential to generate potential elements of financial instability. And the fact of the matter is that no matter how smart we think we are, we are virtually incapable - individually and collectively - of being able to anticipate the specific timing and triggers associated with financial shocks. So if you put that variable into the equation, it seems to me that it just reinforces in spades how important it is to get the fundamentals right.” 

Paul Volcker:  “Well, what I immediately thought, Terri, when you asked the question, I should resist the temptation to say what worries me the most is that I’m not in Washington. That’s not quite true because I take great confidence in the people in the Federal Reserve and elsewhere, particularly Tim Geithner. But both of my associates here have already touched upon the issues that I would put front and center economically. 

I do worry about a lot of things in the economy these days, because I do think an awful lot is going wrong in the world generally that are even more important than monetary policy. But I don’t think I’ll get into those too deeply and just underscore what my two friends just said. I am a little bit more worried about inflation than Mr. Corrigan – although he expressed a worry.  Not that it’s high, not that it’s going to go running away, but it’s kind of creeping up. 

And I am impressed by the degree of pressure - if that’s the right word - psychological pressure, political pressure there is not to do anything about it. A lot of people out there on Wall Street and on Main Street are operating on the assumption that nothing very startling will happen in terms of restraint.  And that’s reflected in attitudes pretty broadly. But once people are convinced that that’s the case, it can creep up on you. And the more it creeps up on you, the more difficult it becomes to do something about it.” 

Question (John Authers):  “I’d like quickly to ask one other question on monetary policy. How important - traditionally when you think of monetary policies as being led by inflation, the control of inflation - how important are assets prices and asset prices beyond the inflation statistics in monetary policy and how should – how important should they be? You know, under Chairman Greenspan people had the impression at one point that he was trying to talk down the markets and at other points that he was injecting liquidity to help the stock market. And now we’ve got great fears in the housing markets and whether or not that will have knock-on effects on the economy. So, I guess, that’s the question I’d be interested in asking everybody, to what extent do asset price bubbles and asset prices beyond those in the inflation statistics matter to the formation of monetary policy?” 

Paul Volcker:  “Well, the question is the importance of asset bubbles, I take it, and what the Federal Reserve should do.  I would approach an answer to that question by a parable, not exactly a parable, but – there’s a lot discussion about what went wrong in Japan in the last 15 years.  And somehow with the consumer price index declining by 1% a year or being stable for five years and then declining by 1% a year for the next five years - and the common lore is named ‘deflation.’ I don’t know how that’s deflation, exactly.  We live in a peculiar world where 3% inflation is stability, but a half a percent decline in the price index is deflation.  So, I’m not quite up with modern nomenclatures here. 

But what I do sense is the trouble in Japan was not by all odds primarily that the price index was declining by half a percent a year, but the fact that both the real estate market and the stock market declined by 75% from the peak of the late 1980s and particularly within the context of the Japanese financial system, which was very heavily dependent upon real estate prices. And, in fact, [with] the banks heavily dependent upon stock prices as well, [this] created a great drag on economic activity for a while. So, if you accept that proposition as a reasonable interpretation of reality, you would say the problem was in retrospect, the bubble. And why was that permitted to proceed as long as it did and as far as it did without an earlier reaction in monetary policy. 

In fact, there was a reaction eventually that came too late and exacerbated the decline. A lot involves, you know, whether in prospect or retrospect, a very difficult judgment.  And nobody wants to intervene in every wiggle or every potential excess in the markets, for sure.  And how do you reconcile that desire to stay out of these markets with the recognition that when apparent risk of a bubble and a reaction becomes great enough so that it’s worth taking a little risk through, I would say general measures, to deal with it.” 

Gerald Corrigan:  “I’ll answer it with my own questions and answers, rather than your questions and my answers. The first question I would say is…should central banks, in any way, target asset price bubbles - whether it’s in housing or stock prices or whatever. And the answer to that question, to me, is no. I have no reservations, but there’s another question, though. The other question is, are there circumstances in which emerging conditions in the form of asset price bubbles, might well warrant a tilt in monetary policy?  In other words, to err on the side of maybe being a little bit more firm rather than a little bit more easy. My answer to that question is yes.  There are circumstances in which I think that would be quite appropriate, but circumstances are not a cookbook or a rule book.” 

William McDonough: “Let me add, very much in agreement with Gerry. I think that the policy instruments available to the Federal Reserve do not lend themselves to aiming right at an asset bubble.  If you take the period between a certain remark about ‘irrational exuberance’ and the market correcting, there was about three and a half years. During that time, certainly it looked as if stock prices were rather heady, but it also looked as if in order to actually attack the asset prices, the cost would be to tank the real economy.  You can do some leaning - I agree very much with Gerry in that regard - you can have monetary policy be a little firmer than it might otherwise be or a little more accommodative than it otherwise might be, but I don’t think there’s anyway in the world in which it would be justified for the Central Bank to say, well, the equity market’s higher then we’d like it to be, the stock market is - the housing market is higher then we’d like it to be - so let’s really put in a very firm monetary policy and slow down the economy, create a lot of unemployment. That simply is not what the laws of the United States say that the Federal Reserve should be doing. Leaning against it, as Gerry suggests, I think is very appropriate, but a direct attack on asset prices - I just don’t think we have the tools and the use of the tools would be very detrimental to the well-being of our people.” 

Question (John Brademas):  “My question is, what have you to say about the impact on the future of the American economy of the rising deficits in the government of the United States? And what, if anything, can the Federal Reserve do about them?” 

Gerald Corrigan: “First of all, you’re asking what the Federal Reserve should be doing about this? The answer basically is nothing. People in the Federal Reserve can go out and give speeches and all that, but this is not a Federal Reserve problem. And I think the future of the Federal Reserve, which is Mr. Geithner and his associates and Mr. Bernanke and his associates, that the most important thing that the Federal Reserve has got to do is keep a steady hand on the helm and not let monetary policy perpetuate this problem. 

But on the larger question - and you know this perhaps better than anybody in this room - what we need to get even the beginnings of a solution to this problem is a return of a genuine spirit of bipartisanship within the political mechanism in Washington, both in the Congress and the executive branch. And I don’t know where you are on that, but as I look at things, at least right now, I must say I do not see a wave of bipartisanship standing around the corner or waiting to join the party.”

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