Just finished Alan Greenspan’s The Age of Turbulence, published in the fall of 2007.
Greenspan says that interest rates were not within the Fed’s control. Formerly poor countries, in which citizens are accustomed to saving heavily, have become rich. That has created a huge surplus of capital in search of investment, which has depressed interest rates. Had the Fed set interest rates high, banks and others could have gone over to China and oil-rich countries and borrowed dollars at lower rates. According to Greenspan, for as long as anyone can remember, there has been more capital than good ideas in which to invest, and the fantastic growth of China made investors more desperate in their quest for a place to sock away funds.
Of the Presidents with whom he worked, Greenspan liked Gerald Ford, Ronald Reagan, and Bill Clinton. What about the fact that we’re still trying to pay back money borrowed during the Reagan years? Not Ronbo’s fault, according to Greenspan. Reagan proposed big tax cuts and big spending cuts across all U.S. government agencies. Congress passed the tax cuts, but not the spending cuts, which resulted in budget deficits.
My favorite parts of the book were chronicles of day-to-day life at the Fed describing how various challenges presented themselves and how they were addressed.
One interesting story sheds light on the limitations of government economic forecasts. A booming economy and stock market swelled federal tax collections so much that there were unheard-of federal budget surpluses during the final years of the Clinton Administration. The non-partisan Office of Management and Budget, in the first half of 2001, predicted that federal budget surpluses would grow year after year. Everyone was trying to figure out what the Feds would do once they’d paid off 100 percent of U.S. long-term debt. Would there be massive tax cuts? Would the U.S. government start buying hard assets in other countries, the way that sovereign wealth funds from China and the Arab countries do now? Everyone in the government, including Greenspan, was shocked when the surpluses evaporated almost overnight. The forecasters hadn’t figured out that a sagging stock market would mean an end to collecting capital gains tax.
Greenspan devotes the last half of the book to rambling discourses on topics of which he knows little. He talks about development in poor countries and says that what they need are property rights. His analysis is painfully shallow compared to Gregory Clark’s A Farewell to Alms, which points out that England circa 1300 had all of the things that modern economists claim are sufficient for economic growth, yet the country stagnated for 400 years.
A long chapter is devoted to the history of oil. You’d learn more reading the book jacket for Yergin’s The Prize.
Greenspan sprinkles the book with discussions about income inequality. Greenspan says that as an economy becomes more productive, the returns to having good skills and being smart will increase (Gregory Clark has some statistics in Farewell to Alms showing the opposite; the returns to skilled labor in England fell and unskilled laborers were the biggest beneficiaries of economic growth). He thinks that the minimum skill level necessary to be productive in the U.S. is now far above what the graduates of our pathetic public school systems are capable of. He thinks it would be politically infeasible to turn our schools from unionized employee paradises into centers of educational excellence. With only dumb young Americans as a labor source, the U.S. economy will stagnate. His solution to continued economic growth is therefore a massive expansion of immigration of smart, well-educated, highly skilled workers from other countries. (Note that Chinese schools on average don’t have to be better than U.S. skills; we just need to attract immigrants from among the millions of Chinese who are better educated than the U.S. average.) Greenspan opposes our current immigration system, which does not give much weight to an immigrant’s potential as a worker.
One insight from the weak second half of the book… The period prior to World War I was one of unbridled optimism. After 100 years of technological advance, increasing wealth, and very few wars in the civilized world (the U.S. Civil War was a painful exception), people thought that the future could only be brighter. WWI changed their thinking dramatically. Greenspan looks at the enthusiasm of the 1990s and September 11, 2001 as comparable. With productivity, wealth, and trade on the rise in most of the world, what could possibly go wrong? The West forget that it had 1.3 billion potential enemies among Muslims.
Various portions of the book are sprinkled with Greenspan’s enthusiasm about technology and what it can do for productivity growth. He is basically optimistic about the future because humans will figure out how to do more with less. Like any good economist, he hedges his predictions of a prosperous 2030 here in the U.S. The main risks that he sees are Islamic terrorism and a resurgence of protectionism that would undo the benefits of globalization (you won’t find Greenspan showing up to protest a WTO meeting!). The main challenge that he sees is funding Medicare and Social Security, which are currently pay-as-we-go (i.e., Ponzi schemes). Despite increased immigration, taxes will rise to crushing levels and benefits will fall. The Europeans will be in even worse shape because they don’t have as much immigration. Greenspan does not address the issue of why a group of citizens would wish to pack their country with double the number of people in order to pay for their retirements. He puts no value on living in an uncrowded place with reasonable real estate prices and traffic.
Any practical investing tips? Greenspan is an old guy (like me!) so he spouts old guy wisdom: given a long horizon, buy and hold common stocks, which have a historically higher return than bonds. Greenspan does not address the problem of what happens to those returns when everyone follows the same advice. [Ed: people noticed how great stocks were starting around 1970, which is why they bid up the prices of stocks to the point that actually stocks are no longer the great investment that they would have been back in 1950 (even before the recent crash, a money manager friend like to point out that someone who bought corporate bonds in 1969 would have earned a higher return than someone who bought stocks; nowadays a passbook savings account held over 10 years would have done better than stocks).]
How about the Collapse of 2008? Did Greenspan foresee it? He thought that Fannie Mae and similar quasi-governmental lenders were disasters in the making, existing mostly to enrich their management and impoverish taxpayers. On the other hand, he thought that the paltry reforms that King Bush II managed to push through a very reluctant Congress (showered with cash by Fannie Mae’s lobbyists) were significant. Greenspan noted that the risk premium on junk bonds compared to U.S. Treasuries was very small and wrote that such periods of small risk premium are usually followed by a big crash. Most of what Greenspan wrote that might relate to the Collapse is that the business cycle is impossible for government to stamp out. People will get exuberant and bid prices up too high and then they’ll get depressed and the sell-off will be deep.
What to do now? Should we have more regulation for the financial sector? Greenspan wrote that it would be a bad idea. Government is too slow and the information is too thin for effective regulation of hedge funds and other exotic entities. He hasn’t said too much since the world fell apart, but in this March 11, 2009 Wall Street Journal editorial he argues against additional regulations beyond increased capital requirements.
It is too bad that Greenspan has been so quiet about the collapse of the world he presided over for two decades. It would be interesting to know what he thinks about the trillions of dollars that we are spending to bail out entrenched firms. From his self-described “libertarian-Republican” perspective, you’d think that ours would be the worst of all possible worlds. We had little regulation so that in theory financial firms were responsible for the consequences of their actions. Then government paid for the dumbest and richest Americans’ (and foreigners’) mistakes, and now we’re going to get a molasses vat full of regulation in which to swim. Greenspan’s philosophy would seem to argue against any bailouts. If every U.S. bank were to disappear, there would still be a surplus of capital in this world. The Chinese, Saudis, and Kuwaitis would come to the U.S. happy to lend money to anyone with a sensible project. [This is indeed what happened to Cirrus Aircraft; they had a nice airplane design and couldn't get anyone in the U.S. to fund production expansion, so they sold the company to Gulf Arabs in 2001 and have produced thousands of airplanes since then.] Greenspan is a big advocate for capital being allocated to the newest and most productive industries. It certainly seems as though he wouldn’t want to see GM and Chrysler propped up, partly due to their inefficient use of money and partly due to the likely retaliation from our trading partners when they see us subsidizing domestic industry.
The book might be good reading for young people, especially if they don’t waste too much time on the second half. Greenspan’s career shows the effects of choosing a field that society cares about and that isn’t overcrowded with smart people. The guy’s analytical skills could have earned him a job as an associate professor of physics in a state college somewhere in the Midwest. Instead of looking at numbers that came out of a particle accelerator, he chose to look at numbers with dollar signs in front of them. That gave him entree into the world of the rich, famous, and powerful in New York and Washington. Every third page contains a phrase of the form “my good friend [some rich or famous person]“. If Warren Buffett is quoted on some impersonal financial subject, he always gets a Homeric epithet as “my friend Warren Buffett”.
More: read The Age of Turbulence.