Did Alan Greenspan Ruin the Current U.S. Economy?

During the tenure of Alan Greenspan, from 1987-2006, the U.S. economy grew significantly. Although these gains helped solidify America as the unquestioned global leader in finance, production, and wealth, it came with a stiff price. We are only beginning to realize the affect of Mr. Greenspan's focus on short-term monetary and fiscal policies that dominated during his last four to five years.

There is certainly no question that Mr. Greenspan maintained stability in the economy from his entrance during Reagan's Presidency to the end of Clinton's. However, the effects of Greenspan's economic policies are certainly being felt. Outsourcing, weakness in the U.S. Dollar, an inverted yield curve, high inflation and repercussions from an unnecessary housing bubble are all presently hampering the American economy.

Despite obvious flaws in Greenspan's policies, he won't get all of the blame. Natural factors, decisions of other leaders, and actions taken by other countries or parties outside of Greenspan's control played a significant role. But, these outside factors surely could have been combated in a more effective manner by our former head of the Federal Reserve.

The 2008 election is critical to the importance of our free market, capitalistic economy. Some Democratic Presidential and Congressional candidates such as Hilary Clinton are proposing protectionism to try and combat outsourcing and trade deficits. This type of legislation will surely put our economy into a slump. Any economist who completely dismisses outsourcing as at least a minor problem does not view economics in an objective light. However, outsourcing really stems from our protectionist approach to the U.S. Dollar in the late 90s and early part of this decade. High costs for merchandise in the U.S. force countries who import American goods to look elsewhere for goods of similar quality and value. Part of this outsourcing problem cannot be directly tied to Greenspan, who has limited control over the wage inflation and more importantly benefits received by U.S. workers. Labor Unions, health care costs, and a variety of other issues compound the actions of Greenspan to intensify the outsourcing effect. Nevertheless, Greenspan's continuous use of short-term methods to boost the U.S. Dollar or maintain its high levels against other global currencies are linked directly to our current outsourcing problem.

Along with outsourcing, Greenspan's short-term bolstering of the strength for the U.S. Dollar has contributed to its current struggles. Money supply was not properly utilized to preserve a stable Dollar, as it has shown with the decline against the Euro from 1.12USD/1E to .75USD/1E. The Dollar's substantial drop has occurred during times of economic prosperity across the globe, including both the U.S. and Europe. A weak dollar hurts the wealth of the nation and also disrupts tourism and travel overseas. Over-tightening and protectionist measures on the dollar generally hamper the economy, as evidenced by our rapid growth in the late 1990s, followed by the recession of 2001-2.

Current threats of recession are also correlated to Greenspan's poor handling of the Fed's interest rate control. Following the recession in our economy, the Fed made multiple, massive rate cuts. These cuts were detrimental for two reasons: they caused the housing bubble of 2003-6 and created an inverted yield curve for treasury bonds. With interest rate cuts in 2002 and 2003 to ultra-low levels, the Fed produced a housing boom that is still affecting us today. By over-cutting, Greenspan generated too much liquidity for the marketplace, thus ensuring heavy asset investment of all sorts. The problem with this massive amount of liquidity was that it was coupled with extremely low interest rates. Housing was the obvious choice for investors and the immediate boom that followed was one of unsustainable proportions. I thought that the Fed was supposed to curb growth in order to control volatility, peaks and troughs, and ultimately enable growth longevity. Apparently I was wrong.

Another key consequence of cutting rates too low was the mishandling of temporary debt vs. long-term debt. One of the main reasons the U.S. Treasuries are considered sound investments is not only because of the "guaranteed return", but also the decency of that return. However, when Greenspan cut rates, they targeted long-term rates in too many cases. This poor action spawned an environment where short-term rates actually exceed long-term returns. Why would an investor tie his capital up longer if he can't get a higher rate? While Sen. Clinton preaches her worries about China and other countries controlling high amounts of U.S. debt, she need not look further to blame then our own Federal Reserve and Treasury Department. Now, America needs to pay off China & Co.'s borrowed money faster then normal. This is the type of action that creates political instability. In addition, the theory of the inverted yield curve suggests there will be a significant slowdown or potential recession. Investors in long-term yields are demanding lower rates because they fear the economy will plummet and those rates will actually decline even more as GDP growth and inflation fall. But, what happens if inflation doesn't decline like was previously expected? So far, inflation has actually been prevalent as evidenced by the commodity gains and our economy might enter the dreaded environment dubbed "stagflation".

As if his horrible policies weren't enough, Greenspan came out not long after the huge February correction and predicted a recession was "likely". Despite his retiree status, Greenspan sent more fear through the minds of consumers, investors, and businesses alike. Conveniently, after the stock market (and economy to an extent) rebounded and stayed its upward course, Greenspan came out again and denounced his previous prediction.

Hopefully that was the last we will hear from Greenspan, unfortunately, I wouldn’t count on it.