Ugh. Maybe they should stick to getting us into the war with Islam.
Maybe they're trying to get the blame back into the Clinton years somehow, anyhow... isn't it utterly clear by now that this disaster cannot be laid at the feet of dotcoms or telecoms anymore?

Isn't there something to the idea that Greenspan helped create the bubble by bailing out Long-Term Capital and lowering interest rates? Moral hazard and all?

"Granted Mr. Greenspan had to steer the economy with the single oar of monetary policy during the 1990s, with fiscal policy frozen by pre-Bush political gridlock."

Is the WSJ complaining about the fiscal restraint of the 90s? Are some people thinking to go back to a fiscally managed economy? Wow, welcome to Japan! (Even the EU would not seriously contemplate this anymore.)

Steve -- I don't think you can call what Greenspan arranged for LTCM a "bail out". What outside entity stepped in with money or guarantees? Rather, he knocked heads together to arrange what was in effect an instant bankruptcy re-organization, where creditors traded debt for equity, but without the issue having to drag through the bankruptcy court for years. Is there really a "moral hazard" in doing this type of thing efficiently?

The Fed could have pricked the bubble -- without causing undue harm to the rest of the economy -- by hiking margin requirements. Alternatively, he could have continued to jawbone markets lower (in the same vein as the "Irrational Exuberance" speech.) Instead, he kept singing the virtues of the productivity miracle -- and that will likely earn him a place in the history books, next to Abby Joseph Cohen, as one of the bubble apologists.

Curt, this is the equivalent of a bailout, with deniability. It's like going to JP Morgan, having him refuse to see you, but having one of his lieutenants walk you to some bankers, with his arm around you. You'd get far, far better terms than if you went by yourself. From what I heard of LTCM, when their highly leveraged bets failed, they had nothing except for a lot of debt, a lot of ill will, and some reputations which had turned to mud. They'd have been in serious trouble without Greenspan's assistance.

So, basically, they were bailed out.

Dear YM: Certainly Greenspan tried hard to keep rates high and suck liquidity out of the banking system 97, 98, and 99, but stocks, and tech stocks especially, went up, not down.

I don't believe there was a bubble but in any case, how could we be talking about a bubble now? That was over in March 2000 when the NASDAQ dropped 1000 points in one week. Two years ago.

Think of what would have probably happened if Greenspan had raised rates back in early 1998 (and more importantly, had signalled that the Fed was now on in rate-raising mode).

The economy would have cooled down. Since, last I heard, the fabled 'soft landing' has yet to be seen, we'd have had a recession. This would have helped the GOP on the mid-term elections. They'd have probably held or gained in the House, and in the Senate. They'd have had a better chance of removing Clinton from office. And 1999-2000 would have been a recession and recovery, also known as a lousy economy. Gore would have certainly been defeated, in a clean election. The GOP would have picked up some more seats in the House and Senate.

This would have meant starting out Bush (say), with a 55-seat or better GOP Senate. This means fewer problems, and smooth sailing for much longer.

In addition, a recession in '98-99 might have trashed the dot-coms, and exposed these shoddy corporations, during the Clinton administration. This would have helped the GOP.

Even assuming that 9/11 didn't happen, this would mean a better election for Bush, no problems with Congress, and starting a GOP administration with an economy which would be just starting to show real improvement for most people. I.e., better conditions than the present for the GOP.

Combined with 9/11, life would be heaven for the GOP.

It would be an unusual person indeed who would have said in the spring of 1998 that Greenspan should have been raising interest rates. There was lots of other stuff going on then that raising interest rates would not have helped--and there was no evidence of higher domestic inflation in the U.S.

Brad DeLong

Brad, does the Krugmanian school have an explanation for why inflation never appeared?

1) The fed eases caused by the Thai/LTCM/Y2K events arguably put funds into the economy that were, to use the Austrian school term, malinvested. That Greenspan chose to endure what he knew (according to Fed transcripts) was an equity asset bubble, speaks to his honesty when claiming the Fed doesn't "target" stock prices.

2)Given the array of choices and outcome probabilities he faced, I don't think it is reasonable now to chastise the Fed Chairman, with 20/20 hindsight.

3)His alacrity in responding to this economic slowdown, once in evidence, speaks to his focus.

4)Given the stellar run the economy has enjoyed under his watch, and the apparent mildness of the current slowdown (in statistical, not personal terms, obviously), I am tempted to second John McCain's call to do a reprise of the movie Breakfast at Bernie's should Greenspan expire: Prop him up, put shades on him, and soldier on. :)

Krugmanian school? Paul has views on many things, but I've never heard him opine on this.

There are actually two views. The first was pushed by Jim Medoff in 1993-1995, and it was that there was much more room to expand employment (and reduce unemployment) without causing accelerating inflation than mainstream macroeconomists realized because they hadn't been tracking changes in the labor market--the decline in private-sector unionization, the rise of the temporary services industry, and businesses' increased sophistication at figuring out how to tap into new pools of potential workers--that together were making the labor market work very well.

The second is that it is due to the computer boom. When the high-tech sector of the economy got large enough to have macroeconomic salience and boost the overall rate of productivity growth, firms found they could grant workers higher real wage increases and still maintain their profits. Since firms either stop hiring or start raising their prices faster when the wages they have to pay new workers start cutting into their profits, faster overall productivity growth boosted business hiring--and reduced unemnployment without causing higher inflation.

I tend to lean toward the second. But evidence to distinguish between the two is hard to find.

Brad DeLong

Given that the Fed has only one policy lever, I think it is probably unreasonable to expect it to focus it on stock prices (or asset prices in general.) But I would fault Greenspan for not raising margin rates if he thought things were getting bubbly. The argument I have heard against that is that the major players had sources of funds that would not be affected, and so it would not be effective or fair.

I don't know what he thought (so maybe it is a straw man) but I think that this argument is bogus--it might have been effective at a symbolic level, as a discount rate hike can be, showing that he was serious that the exuberance was becoming irrational. It doesn't seem so unfair to make it more difficult for smaller players to invest in a bubble. And according to the Fed transcripts, he believed this would work, so why not do it?

Hope that doesn't put me in the Gamma quadrant--I don't want to hang out with Bob Bartley!

Matt Wilbert

The Fed has no explicit mandate to target asset prices: rather inflation but also the general health of the economy.

It would therefore be extremely difficult for a Fed Chairman, even Greenspan, the strongest Chairman in a generation (if not forever) to raise interest rates when inflation was stable and/ or falling.

In Japan in the late 80s, there was a similar pattern of strong currency, rising productivity and falling inflation. This suggests that Central Banks need to pay close attention to asset price bubbles and their risks.

But while AG could publicly muse about 'Irrational Exuberance', it would be intellectually and emotionally (and politically) very difficult for a devotee of Ayn Rand to act to head off people getting *richer*.

In reality, we haven't 'cracked it' on Central Bank policy as much as we think. We have decent models of what to do in a recession (cut, and aggressively), what to do in the face of inflation (raise rates anticipatorily, to manage inflationary expectations downwards) and what not to do in a Crash (make it worse by allowing banks to go bust, a la 1929-30).

All of this understanding is the result of 2 great waves of thinking: the Keynesian one (and the problems of a liquidity trap) and the Rational Expectations one (the problems of beating down inflationary expectations, once they are created).

But the question of what to do when the economy appears to be in Goldilocks, but asset prices are raging far above historic norms, is an open one.

Perhaps, like with Keynes and the REH crowd, we need to comb the writings of the 19th century, to find Political Economists who wrote about these problems, and then try to formally model them.

The level of the stock and housing markets is going to have to enter into our economic models.

I'm not sure how the WSJ's asking a question...

"... if there was [a bubble] then who created it? One suspect would have to be the Federal Reserve itself, for feeding the economy too much liquidity for too long... "

... translates exactly into a statement that the Fed should have choked the economy to cause lower growth and higher unemployment during the 90s.

Instead of into something like, say:

"[Paul Gigot joins] Michael Bordo and Olivier Jeanne [as they] weigh in on the side of taking away the punchbowl early if there is asset price inflation along. They base their conclusion on the belief that what goes up must come down, and the fear that when asset prices come down they will generate a large and destructive credit crunch that will be had to fix on the spot ...

"'...boom-busts in asset prices can be very costly ...We also argue that there is a case under certain circumstances to use monetary policy in a proactive way to restrict private domestic credit and diffuse an asset price boom ...'"

As posted on this web log not long ago, with seeming approval. Maybe Gigot visits here?

When I was taking my grad econ courses, way, way back in the early 80s, my profs who came across the street from the NY Fed were monetarists (big reformers they were, then).

If one had said to them then: "lots of liquidity is to pumped out in '97-'99 [Asia, LTCM, Y2K] followed by the Fed driving the yield curve negative in 2000 to drain it out, and we'll see an asset boom going from '98 to '01, followed then by a big bust ..." the'd have just looked at one and said, "Yes, well?" [And have noted another set of superimposed curves with one marked 'one year lag' to be added into the textbooks.]

No doubt economics has come a long way in 20 years. But is it really such a luddite thing today to even ask whether all that liquidity pumping could have contributed to the asset price booms in the stock market and housing (which I sincerely hope is not a bubble too)?

I'm curious, because I haven't seen the issue even raised in any serious econ forum. (Of course, I'm not an ecomomist so I don't see most of the serious econ forums. If it has been discussed anywhere I'd appreciate a pointer, to help close the 20-year gap in my education.)

Anyway, if the notion isn't entirely obsolete, why is the WSJ accused of wanting to "choke the economy" as a result of raising it in question format? And if it is, how do Bordo and Jeanne escape the charge of recommending a policy of proactive economy-choking to head off stock market/real estate asset price inflations?