I was not an Alan Greenspan fan, but I will give him some serious credit on his passing. I’ll also give him serious blame for missing two huge bubbles, the collapse of which gave us serious recessions. I’ll also add a comment about the opaque way he ran the Fed, to which I fear our new Fed chair is returning.

Starting with the positive, Greenspan allowed the unemployment rate to fall to 4.0% as a year-round average in 2000. This was huge. The prevailing view in the economics profession had been that the unemployment rate could not fall much below 6.0% without triggering spiraling inflation.

Greenspan was not a mainstream economist and therefore did not accept this view. In 1995, when the unemployment rate was already under 6.0%, he famously argued with two ostensibly more liberal Fed governors, Janet Yellen and Lawrence Meyer, over this point. They both wanted Greenspan to raise rates to head off inflation. Greenspan insisted that he didn’t see evidence of inflation and was not going to raise rates just because the unemployment rate was low.

Greenspan stood pat as the unemployment rate fell to 5.0% and then 4.5%, and finally in 2000 to 4.0% as a year-round average. We actually had several months of 3.9% and 3.8% unemployment. This allowed millions of workers to get jobs who would have otherwise remain unemployed if Yellen and Meyer had gotten their way.

Even more importantly, the low unemployment of the late 1990s gave tens of millions of workers the bargaining power to secure real wage gains. This was the first period of sustained real wage growth for low- and middle-wage earners since the early 1970s. The low unemployment of this period also set a benchmark for the future, where economists recognized that 6.0% unemployment was not a floor. (Yes, we can do better with a federal jobs policy, but that is not Alan Greenspan’s domain.)

Greenspan and the Bubbles

Greenspan decided to ignore the two huge bubbles that grew under his watch. He famously commented about the irrational exuberance in the stock market in 1996, which quickly sent stocks tumbling. Greenspan then mumbled some nonsense about growth possibly justifying market prices, and stocks recovered and continued to rise for another three and a half years.

The bubble began to deflate in March of 2000, and the market eventually lost close to half its value. The NASDAQ, where the major tech stocks were listed, lost almost 80%. The popular wisdom is that the resulting recession in 2001 was short and mild. This was not true from a labor market perspective. We went four full years without creating jobs and the strong real wage growth of the late 1990s quickly stopped and went into reverse.

The next bubble was even worse. There was already some evidence of a housing bubble in the late 1990s, as house sale prices began to outpace inflation. They also outpaced rents, which were still rising roughly in step with overall inflation.

This divergence increased in the 00s, triggered in part by low interest rates, but also incredibly lax lending standards. At their peak in 2006, house sale prices had risen 70% in real terms compared to where they were a decade before. The subsequent collapse gave us a financial crisis and the worst recession since the Great Depression, as the unemployment rate nearly reached 10.0%.

After the collapse all the people in economic policy positions gave themselves a “who could have known?” amnesty. The answer of course was everyone should have known. The dodgy lending practices of mortgage issuers were hardly a secret; they were bragging about it. People were buying houses with no money down and in many cases even borrowing more than the value of their home to cover moving expenses and closing costs. The same was true for the securitization that allowed issuers to offload any mortgages immediately after it was sold, regardless of the quality.

In an interview that Greenspan gave to the Washington Post after the crash, he commented that he had become concerned that the share of subprime mortgages had jumped to 25% in 2005. He said he couldn’t remember if he had passed this information on to his successor, Ben Bernanke, when he stepped down in 2006.

This was infuriating. The idea that the Fed chair was not aware of the explosion in subprime lending (even worse Alt-A, which had risen to 15%) was truly incredible. It’s not clear if it would be worse if Greenspan’s claim was true or not.

Remedies for Bubbles

I have written about this before, but I’ll just make a couple of points here. First, in the case of the stock bubble, I think talk would have gone a long way. Greenspan’s offhand “irrational exuberance” comment had a huge effect. Imagine he had the Fed churning out papers showing how stock prices were completely out of line with pretty much all projections of future GDP and profit growth.

The point is not that investors had to agree with Alan Greenspan, but they would have to answer him. The “who could have known?” defense might save a fund manager when it is just random gadflies yelling about a bubble. It is a very different story when a Fed chair is putting out the warning. A person managing tens of billions at a pension fund or endowment will be looking at the unemployment line if, after the crash, they say they didn’t pay Greenspan any attention.

In the case of the housing bubble, in addition to warnings, the Fed has substantial regulatory authority. The bad practices of banks and other financial institutions were easy to see. The Fed could have cracked down. Instead, they could not even be bothered to issue updated mortgage lending guidelines until after the crash.

Greenspan Thought the Fed Should be Opaque

This one is timely since our new Fed chair, Kevin Warsh, seems to want to turn back to the Greenspan era. Since I just wrote about this last week, I’ll pick up part of what I said.

“Under Alan Greenspan, the Fed was deliberately opaque. I remember walking to work one day in the mid-1990s, the day after Greenspan had given some big speech. Back then, we had newspaper boxes where you could buy the paper. I always glanced at the machines as I walked by. Half of the papers had headlines saying something to the effect of “Greenspan Plans to Raise Rates.” The headlines for the other half were something to the effect “Greenspan to Leave Rates Unchanged.”

“Greenspan, who followed his press closely, was reportedly delighted. He had given a major speech, and no one had any idea what he was talking about.

“Ben Bernanke, his immediate successor, wanted the Fed to be more transparent. He explicitly introduced the concept of “forward guidance” to Fed policy: the idea that the Fed would tell people where it expected interest rates to go in the near-term future. In their tenures as Fed chair, both Janet Yellen and Jerome Powell continued this policy. Their view was that they did not want the public to be surprised by the Fed’s decisions.”

I argued that this makes good sense both from the standpoint of the economy, being clear about Fed plans creates more certainty for investment decisions and is also important for reducing corruption. As I noted:

“Wayne Angell, who served as a Fed governor from 1986 to 1994, began consulting at the rate of $100 a minute (roughly $220 in today’s dollars) after he stepped down from his position in 1994. Angell may have been an insightful observer of the national economy, but he was obviously being paid for his knowledge of his former colleagues’ views on interest rates.

“If the Fed is fully transparent about its intentions, no one is going to get paid $220 a minute for their insights on what the FOMC is thinking. We don’t know how far Warsh will look to go with this move away from Fed transparency, but the further he goes the more room there is for corruption.”

Anyhow, Greenspan’s deliberate opaqueness was not a good policy for the Fed. We should hope that Kevin Warsh does not follow his example as chair.