Analysis: Greenspan Is Irrelevant 

by Martin Hutchinson, UPI business and economics editor.

WASHINGTON - Alan Greenspan cut the federal funds rate by another quarter percent Tuesday, the seventh cut this year, during which he has reduced the federal funds rate from 6.5 percent to 3.5 percent, its lowest level in seven years.

Who cares? At this stage, the man's irrelevant. A deep, nasty and probably prolonged recession is locked in, and there's nothing whatever Greenspan can do about it.

Greenspan, chairman of the Federal Reserve, hasn't always been irrelevant, of course. Early in his term of office, in October 1987, he acted quickly and effectively to neutralize the effect of the October 1987 stock market crash.

George Bush senior certainly thought he was relevant. In 1991-92 Greenspan allowed the M3 money supply to shrink, and consequently slowed the recovery from the 1990-91 recession to an agonizing crawl, dooming the chances for the senior Bush's re-election.

P.C. Leftist Economics

Since about 1991, far from being the Ayn Rand supply-sider he has been portrayed, and may have been in his early years, he has followed a monetary policy accommodating to a fault, whose one central principle appears to be the glorification of liberal "politically correct" economics and its progenitors - most notably, during the 1990s, the Clintons.

Of course, on Dec. 4, 1996, Greenspan looked for one moment very relevant indeed, as he denounced the stock market's "irrational exuberance." The stock market dropped by 100 points the following day.

Greenspan was right; the stock market was irrationally exuberant. The Dow Jones industrial average was at 6,400, far above any rational estimate of its value even then. By historical standards, the Dow at that time should have been no higher than 3,500 or so. If Greenspan had followed his December 1996 words with action, and had acted to choke off the rapidly inflating stock market bubble, there would have been a brief, mild recession in 1997-98, from which we would long since have emerged, and all would have been well.

He did nothing, the opportunity was lost, and today the Dow stands over 10,200, far more overvalued than in 1996 even after the inflation and collapse of the dot-com mania of 1999-2000.

The 1990s were the decade of chimeras, mythical beasts which appear solid, then vanish into thin air. Dot-com companies were thought able to survive without profits, or even very much in the way of revenues. Investment banking was thought to be an economically productive and growing industry, whose denizens were thought to deserve their vast salaries. It was thought possible to remunerate staff almost entirely by stock options, the cost of which never flowed through the income statements, while corporate pension schemes went unfunded - pensions were for losers, the elderly flotsam left behind by the ever-growing New Economy.

And productivity, above all, was held up as the Holy Grail of the New Economy, that would make Americans forever rich and the stock market forever rising. Greenspan himself repeatedly described productivity as justifying stratospheric stock market valuation levels; even on Tuesday, the Federal Open Markets Committee left future productivity growth as the one bright spot in its otherwise gloomy statement. But as recent Bureau of Labor Statistics figures have demonstrated, the productivity miracle of the New Economy was a chimera like other '90s chimeras; on close inspection it vanishes into thin air. The BLS has revised the figures downwards and further inspection suggests that they should be revised still further downwards to adjust for methodological changes.

Since 1996, Greenspan has been lionized by the media, while doing nothing useful to correct the increasingly unrealistic overvaluation of the stock market. From 1995 to 1999, M-3 money supply increased by 9.5 percent, allowing economic growth of 3.5 percent and inflation of 6 percent. In practice, the inflation all went into stock market prices, with a moderate overspill into house prices.

Then in May 1999, Greenspan finally decided that the stock market bubble had gone too far (having played a major role in re-inflating it with three disastrously timed interest rate cuts in late 1998.) The federal funds rate was increased six times in the following year, from 4.75 percent to 6.5 percent. Money supply growth slackened off just slightly to an average of 8.5 percent in M-3 growth. After the classic nine months' delay, the stock market bubble began, ever so slowly, to deflate.

By the end of 2000 Greenspan, still unworried by stratospheric stock market valuations, but concerned lest a serious recession occur and be blamed on either him or his Clinton buddies, reversed course. From November 2000 to July 2001, M-3 money supply increased at an annual rate of 14 percent. The federal funds rate has been reduced now seven times, to little more than half its previous level.

Prepare for Pain

So what has happened as a result? Very little. The recession has been postponed by about nine months, thus enabling it to be blamed squarely on the Bush administration. Stock market prices have continued to decline, while the money supply bubble has gone into a huge overinflation of consumer debt and the housing market, which will exacerbate the recession when it arrives in full force, and will make life painful indeed for those who during 2001 have spent not wisely but too well. In a deep recession, all lenders are predatory.

Now Greenspan's quiver is almost empty; he has printed money, slashed interest rates, and all for nothing - the recession grinds on apparently unaffected by his actions. The likely onset of the next down leg: October, when Greenspan will have cut rates once more, to no effect, the tax rebates will all have been spent, and the economy has to suffer for three months under 2001 individual tax rates, before dropping in January to the lower rates of 2002. October is traditionally the cruelest month for the stock market, and 2001 looks to be no exception. But I think it unlikely that the stock market drop needed to restore historical valuations, of more than 50 percent even from present levels, can all be concentrated into one month.

The recession, therefore, is Greenspan's fault, as the supply-siders have shrilly proclaimed since January. They are nevertheless wrong in their diagnosis; his mistake was not the ineffectual and wimpy "tightening" of 1999-2000, but the complete failure to tighten when it could have done some good, in December 1996.

However, at this stage the Bush administration is beginning to make some mistakes, too. First, the tax cut. Not the cut itself, which is generally helpful, but its timing, the absurd gimmick of sending out "checks" in July-September 2001 rather than tax rebates in April 2002.

In January, I favored a tax cut, precisely because I felt that, apart from such a cut's benign long-term supply-side effects, its short-term Keynesian effect might kick in around the spring of 2002, after the economy had reached bottom but before the next congressional election. Such a cut would have given the economy a welcome kick off the bottom, might have prevented the election of a big-spending Congress in 2002, and might thus have allowed the United States to climb out of the recession relatively quickly, with economic growth being restored by 2004 or so.

However, Greenspan has delayed the recession by nine months, so that, because of its depth, and the time it will take to reach bottom, the economy is unlikely even to approach a firm base before the end of 2002. Meanwhile, the tax cut has come eight months early, while the economy is still teetering on the edge of the cliff rather than trying to reassemble itself at the bottom. This timing problem, at least, is largely Bush's fault.

Bush's Blunder on Illegal Aliens

A further Bush mistake, although it may not be implemented by Congress, is the attempt to grant amnesty to 3 million illegal aliens. There is a devastation to any kind of immigration policy wrought by repeated amnesties; they simply increase the numbers of illegal aliens - the immigration least likely to be economically productive. But an amnesty, going into a recession, is economically suicidal. Just when unemployment is starting to rise rapidly, the amnesty would permanently entrench 3 million low-skilled workers in the deteriorating U.S. job market. If that doesn't cause urban rioting and apple sellers appearing in the streets of New York, what will?

Consequently, when the recession hits with full force, from October onward, there will be no weapons left with which to fight it. Short-term interest rates will already be at historic lows, while the burgeoning federal deficit will certainly prevent any further tax cuts; indeed tax increases may be forced through by a divided Congress.

By late 2002, the economic picture will look bleak indeed; so a spendthrift Congress is almost certain to be elected that November. Such a Congress would doubtless ratchet up government spending as a proportion of Gross Domestic Product, as Congress did from 1931 on and the Japanese Diet (parliament) did in the 1990s. Relatively high and rapidly rising public spending, as demonstrated in my column last week, will prove a huge barrier to economic growth, as it has been for Japan since 1993 (and as lowish but rapidly rising public spending was for the United States from 1931 on.) Thus, if all goes ill, the recession will prolong itself, a spendthrift president to match the spendthrift Congress will be elected in 2004, and the earliest possible date at which recovery will even be able to begin will be 2009, after the spendthrift president and Congress have been replaced by tightwads, and public spending has been brought under control.

What can Greenspan do about all this? Nothing. Economically he has become the irrelevant man.

If he wishes again to be relevant, politically if not economically, he could admit that the ugly recession we are entering was caused by the ill-founded over-optimism and monetary fecklessness in the late '90s. This will not affect matters before late 2002, but by removing most of the blame for the recession from Bush, it would reduce the likelihood of a descent into spendthrift government and prolonged depression that will otherwise waste the years 2003-2009 in the lives of the American people.