Free Lunch: Myths of the Greenspan Era

Federal Reserve Chairman Greenspan’s imminent retirement has become the largest love-fest since Woodstock. Alas, we cannot avoid adding to the chatter.

Besides, how many Fed Chairs will retire in our lifetimes? Perhaps we can act as a counter-ballast to all the accolades and bon mots. Now would be as good a time as any to discuss some of the myths and misunderstandings of the Alan Greenspan era:


Myth 1 Greenspan whipped inflation: This is the most pervasive-yet-easiest to disprove Fed Chair legend. As the nearby chart of long term interest rates reveals, inflation spiked in the late 1970s. Paul Volcker became Fed Chair during that period of ugly stagflation. He aggressively changed the way the Fed attacked inflation, and the U.S. has been enjoying the fruits of his labor ever s ince.

Myth 2 Greenspan’s flexibility met all challenges: Flexible? Hardly. The Fed Chair’s response to every challenge has been the same: inject more liquidity into the system. That’s why Money Supply has risen so dramatically over the past 18 years (M3 included), and why rates are down to unnaturally low levels. To be considered flexible, you would need more than one move in your  bag of economic tricks.

Myth 3 The Plunge Protection Team: After the 1987 crash, traders claimed the market “mysteriously” managed to stop its sickening fall. While others have laid this myth to rest previously, let’s go right to the source of this one. The Dow had dropped from 2,400 to almost 2,200 on Friday, and then plummeted to almost 1,600 on Black Monday. A 33% peak-to-trough drop is no sign of an invisible hand: That’s a massive, capitulatory distribution which exhausts sellers. That correction brought out bottom-fishing fools and heroes alike – no Plunge Protection Team necessary.

Myth 4 The Greenspan Put: While the concept of the “Put” is alive and well, I do recall a recent 78% plunge in the Nasdaq. As of Big Al’s 2nd to last day as Chairman, the Nasdaq was still down close to 60%. If that’s the kind of capital destruction that exists with the “Put,” its really not worth all that much. Indeed, the brutal crash makes it kinda hard toargue that the Put is – or ever was – alive and well.

Myth 5 Greenspan as Economic Sage: We laid this fable to rest in 2004 (Ignore the Cheerleader-in-Chief).

One has to wonder why so many acolytes believe you can get something for nothing. Yet Greenspan’s legacy is based on the Free Lunch: easy money, and lots of it. Yet I recall the very first lesson in Economics: “There is no Free Lunch.”

Much of the Greenspan myth is actually the result of his fortuitous timing: He started his gig as head honcho 5 years into the biggest Bull Market in history, and even before the crash, his reputation had been cemented.

Despite the saying, people still confuse a bull market with genius.


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  1. pjfny commented on Jan 30

    Re Greespan put………..
    It is not that there is in fact a put….the issues is that mkt perceives there to be one…this has created enourmous complacency, so when the risk aversion trade starts and the mkt realizes that there is no greespan put, it will be far worse than otherwise.

  2. D. commented on Jan 30

    The fact that rates are lower than when he started is the first sign of economic decay. To generate the average 3.5% percent GDP growth of the last 15-20 years succesive cuts were always needed.

    Why entertain any long term thinking when, as soon as the economy slows, rates will be cut and some new marginal player will be able to finance itself more cheaply than the innovator and come and eat its lunch? Never mind the hard working, lower rates have also let the living dead live a little longer.

    We’re now a bunch of free-loaders sitting on our laurels, expecting the ROW to do our heavy-lifting!

  3. Fred commented on Jan 30

    Next you are going to tell me there is no Santa Claus.

  4. OldVet commented on Jan 30

    You’re so mean. He gave me CANDY! boo hoo hoo.

  5. algernon commented on Jan 30

    You are being too hard on Greenspan. For a political appointee, he has demonstrated more restraint & intelligence than most.

    His main mistake was in not seeking rates which approximated market interest rates in the late 90’s–ie, higher rates, which would have moderated the bubble. Do you blame him for the extra liquidity he pumped in in fear of Y2K, which gave the NAZ its last 1000 points? Everyone was very afraid. You forget.

    Having not moderated the size of the bubble, he would have been crucified had he not opened the flood gates in 2002.

    I wish he had been a courageous Austrian economic philosopher & avoided the mistakes you spell out. But no democrat or republican will ever nominate such a one.

  6. The Prudent Investor commented on Jan 30

    Er, there certainly was no PPT in 1987 because Reagans executive order #12,631 for the formation of the Working Group on Financial Markets is dated March 18, 1988. The WGFM/PPT is acknowledged by the Treasury, I once found a picture of 2 of its members, one being Greenspan, with a corresponding caption on its website.

  7. cm commented on Jan 31

    There may not be an explicitly macro-observable “put”, but I have heard more than enough statement from actual or aspiring home “owners” to the common effect that the govt. will always accomodate the US homeowner/consumer, or else everything goes to shit. That’s enough “micro” evidence for my standards. And also note the axiom embedded in those statements.

  8. az commented on Jan 31

    You are so right!
    Greenspan is an inflationist.
    Inflation is a function of monetary AND psychological factors (animal spirits and inflated expectations).
    Liquidity is chasing all asset classes.
    High debt levels are inflationary when the debt is assumed as has been the case.
    It is deflationary only when it is burdensome.
    By raising rates Greenspan is trying to curb inflationary consumption at a late stage.
    A portion of the productivity gains we have seen are real but productivity is also a function of liquidity. Absent capacity constraints, increasing liquidity generates productivity gains because strong consistent demand allows more sausage meat to be pushed through grinder- in effect achieving an economy of scale. That, all taking place in Greenspan’s No-Fault Economy.

  9. Peter North commented on Jan 31

    I find it so humorous that people bash Chairman Greenspan. He is without a doubt the greatest Fed Chairman of all time.

    He steered us through the crash of 87, LTCM and the Nasdaq Bubble. He helped create an era of economic prosperity that the world has never seen the likes of.

    His brilliance and command provided the markets with reassurance and stability during very unstable times.

    Personally, I find it offensive that people like you bash Greenspan. Talk about biting the hand that feeds you. Bashing Greenspan is akin to bashing Joe Torre whenever the Yankees fail to win the World Series. Lets not forget the great times. Even during the bad….

  10. jlj commented on Jan 31

    The discussion reminds me of the line from the “Man Who Shot Liberty Valance” —-“When the legend becomes fact, print the legend”

  11. Peter North commented on Jan 31


    I am not trolling. I honestly find it offensive that people like you bash him.

    Your argument is good. You make a good case. You back up your claims with facts. But there is one thing missing. PERFORMANCE! In the investment world the only thing that matters is performance. You know this. People can make all the claims they want. But if Person A has more money than Person B at the end of the day then Person A is right and Person B is wrong.

    You also know that the performance of the US economy and the US stock market has never been as strong as it was during Greenspan’s tenure. And it likely never will be.

    You say he didn’t tame inflation. The market seemed to disagree. All the way from 2,500 to 11,000…..

    You say he wasn’t flexible. The FED has two options. 1. Change the Fed Funds Rate OR 2. change reserve requirements. A Fed Chairman isn’t supposed to have a big “bag of tricks”. It is not a Fed Chiefs job to be flexible. Besides, how flexible can he be when he only has two options?

    You claim that he didn’t manage the crash of 87 well. Since you enjoy bashing Greenspan for the crash of 2000 (while failing to credit him with the 90’s run-up) I should ask you if Greenspan was simply a victim of Volcker’s mismanagement? People seem to forget that the market was up 38% TYD before the infamous 1987 “Black Monday”. If 2000 is Greenspans fault, then why dont you blame Volcker for 1987? Also, if my memory serves me, the market performed pretty well after 1987 and into the 90s. Remember that minor bull market we had for the next decade?

    Conerning the put. Again, you are so quick to focus on short-term performance. Did you forget the 450% run-up in the Nasdaq during the 5 year period BEFORE the bubble burst? Were you complaining about monetary policy then? It would be great if markets just chugged along at 8% per year, but lets be real. We have good times and bad. You seem to dwell on the bad…..

    Greenspan as an economic sage? 2,500 to 11,000 in 18. I’ll let you do the math on that annualized return. Need I say more?

    Performance trumps all. You should know this by now. Unless of course you are the type of investor who confuses genius with luck. Do you call Buffett “lucky”? Do you call Whitman “lucky”? Do you call Lynch “lucky”? Do you call Jim Cramer “lucky” (JUST KIDDING!)?

    Unfortunately, in the investment performance has the final say. You can make all the claims you like, but performance trumps all. And Greenspans performance was outstanding.

    Still Dumping Big Loads,

    Peter North

  12. Alan Grossberg commented on Jan 31

    Your piece on Alan Greenspan confirms my long-held belief that he’s a classic example of someone who’s a legend in his own mind and, with the media’s generous aid, ours as well.

    But I would submit that George Bush has benefitted from a similarly inexplicable — and widespread — myopia.

    Thanks in large part to the general ineffectiveness and disarray of the Democrats, the Bush adminstration has most of the country believing the pabulum that, in essence, the terrorists are coming…..we’re all gonna die….and only the GOP can save us from this worst of fates. This line of reasoning conveniently avoids the fact that the GOP was in control of the White House for nine months — and the Congress for seven years — prior to 9/11.

    Equally inexplicable is the widespread accolade given to Bush for that facocta “bullhorn moment” in NYC. Had any President, regardless of party, not acted similarly he would have been ridden out of town on a rail.

  13. Barry Ritholtz commented on Feb 1


    The tools at the disposal of the Fed are far more complex than you realize — Reg T is the margin requirement, which judiciously applied, may have slowed if not stopped the bubble in 1999/2000. Reg X are the home lending standard rules the fed could enforce / tighten to reduce risky no income no credit check/interest only/ 110% mortgages.

    There are lots of tools at beyond tighten/loosen rates.

    As to the 87 crash, dont put words into my mouth – I never trashed his post crash performance (if you think I did, please point me to it) .

    In fact, this post doesn’t trash him at all — it points out the myths that have grown up around him.

    As to the market’s performance form 1987 – 2000, I stand by my final statement: I guess you are one of those people who, despite the saying, still confuse a bull market with genius . . . .

  14. Investing Intelligently commented on Feb 13

    Worst Fed Chairman Ever?

    Ive seen a lot of criticism about Alan Greenspan as he hands over the throne of the US Federal Reserve to Ben Bernanke. Here are some of the articles that I have seen (I havent read all of them):

    Great story by Bill Fleckenstein, …

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