Happy Anniversary, Irrational Exuberance

Today is the 15th anniversary of the infamous “irrational exuberance” speech by former Fed Chief Alan Greenspan (see below).

Here is the key excerpt from the speech (note the unintentionally ironic title):

The Challenge of Central Banking in a Democratic Society
Remarks by Chairman Alan Greenspan
At the Annual Dinner and Francis Boyer Lecture of The American Enterprise Institute for Public Policy Research, Washington, D.C.
December 5, 1996

Clearly, sustained low inflation implies less uncertainty about the future, and lower risk premiums imply higher prices of stocks and other earning assets. We can see that in the inverse relationship exhibited by price/earnings ratios and the rate of inflation in the past. But how do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions as they have in Japan over the past decade? And how do we factor that assessment into monetary policy? We as central bankers need not be concerned if a collapsing financial asset bubble does not threaten to impair the real economy, its production, jobs, and price stability. Indeed, the sharp stock market break of 1987 had few negative consequences for the economy. But we should not underestimate or become complacent about the complexity of the interactions of asset markets and the economy. Thus, evaluating shifts in balance sheets generally, and in asset prices particularly, must be an integral part of the development of monetary policy.

The public examination of Federal Reserve actions extends well beyond our stewardship of monetary policy. Our overall management of the Federal Reserve System should, and does, come under considerable scrutiny by the Congress. Since we expend unappropriated taxpayer funds, we have an especial obligation to be prudent and efficient with the use of those funds . . .

Note that SPX rallied for another three years and doubled from that point.

So much for the Maestro’s acumen . . .

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