by Bob Woodward
One bank president voiced his preference for a 1/2 percent increase.
Greenspan replied that he had thought about that. “But I think it may be very helpful to have anticipations in the market now that we are going to move rates higher because it will subdue speculation in the stock market; at this particular stage, having expectations hanging in the market that we may move again, and move reasonably soon, could have a very useful effect.” Simply put, “If we have the capability of having a sword of Damocles over the market, we can prevent it from running away.”
Another bank president said that he too had a mild preference for 1/2 percent.
“Well,” Greenspan responded, “I’ve been around a long time watching markets behave, and I will tell you that if we do 1/2 percent today, we have a very high probability of cracking these markets. I think that would be a very unwise procedure. . . . To go more than 1/4 percent at this point I think would be a bad mistake.” The announcement of a rate increase was going to be a very big move. “Look,” he said, “the stock market is at an elevated level at this stage by any measure we know of.” The Dow was nearly at 4000, a record high.
Greenspan could see that a caucus favoring 1/2 percent had formed as more members spoke. Coming into the meeting, he had thought he might have to argue hard to get any kind of rate increase. He had not had the time to canvass the whole committee and line up the votes. He was now defending 1/4 percent as enough, something he had not expected. He was going to have to reshuffle the deck very quickly. Control seemed to be slipping away.
“You know,” Greenspan finally said, “I rarely feel strongly about an issue, and I very rarely sort of press this committee.
“Were we to go the 1/2 percent with the announcement effect and the shock effect, I am telling you that these markets will not hold still.” Then, pulling out all the stops, he said, “I’ve been in the economic forecasting business since 1948, and I’ve been on Wall Street since 1948, and I am telling you I have a pain in the pit of my stomach.” He noted that in the past he had listened to his instincts and that they had been right.
This pain in the stomach was a physical awareness Greenspan had experienced many times. He felt he had a deeper understanding of the issue—a whole body of knowledge in his head and a whole value system—than he was capable of stating at that moment. If he was about to say something that wasn’t right, he would feel it before he was intellectually aware of the problem. It was this physical feeling, this sense in the stomach, that he believed kept him from making dangerous or absurd statements that might appear on the front page of the newspapers. At times, he found his body sensed danger before his head. As he walked down the street there would be an approaching car, and his body knew to stay out of its way before his head.
“I am telling you,” the chairman continued, “and I’ve seen these markets, this is not the time to do this. . . . I really request that we not do this.”
In the near future they could do a couple of 1/2-point jumps when the markets were acclimated to what was happening, he said. And he wasn’t through.
“I also would be concerned if this committee were not in concert because at this stage we as a committee are going to have to do things which the rest of the world is not going to like. . . . If we are perceived to be split on an issue as significant as this, I think we’re risking some very serious problems for this organization.”
Two of the bank presidents challenged the chairman, asking for assurance, as a kind of compromise, that the committee would convene a telephone conference call before the next scheduled meeting. The implication was that the FOMC could then raise the rate another 1/4 percent.
Greenspan bristled. “I’ve been chairman of this committee now for over six years. I hope I have enough credibility to know when a telephone call is appropriate.”
“But there will be a phone call?” Lindsey insisted.
“Yes,” Greenspan replied.
“I think it’s demeaning to the process,” said William McDonough, the New York Fed president who had taken Corrigan’s place, “to the nature of this committee, to say to the chairman, ‘I’ll vote for what you want, but we’ve got to have a phone call.’ ”
Greenspan went all the way. “I don’t request often that we try to stay together,” he said. “As I listened these last two days, I didn’t sense any significant difference within the committee on the purpose and the goals of what we’re doing. I would request that, if we can, we act unanimously. It is a very potent message out in the various communities with which we deal if we stand together. If we are going to get a split in the vote, I think it will create a problem for us, and I don’t know how it will play out. I rarely ask this, as you know.” He realized he was asking for nothing less than a vote of confidence. He requested a call of the roll on his proposed 1/4 percent increase.
John LaWare, a Reagan appointee on the board, found the chairman’s warning sobering—it was one he would remember for years.
The vote in favor was unanimous.
“I thank you for that,” Greenspan told the committee. He believed it was the first time he had ever been so openly grateful to the committee. “I think in retrospect when we’re looking back at what we’re doing over the next year, we’ll find that it was the right decision.”
They agreed that, for the first time in the history of the Fed, they would publicly announce a fed funds rate increase. No more covert moves subject to misinterpretation. Greenspan had a sense that they had created unnecessary secrets, and it was better to be up front with the public and the markets.
Later that day, when the 1/4 percent rate hike was announced, the Dow Jones dropped nearly 100 points to 3871. It was the largest single-day loss in two years.
• • •
Three weeks later, during a February 28 FOMC conference call, Greenspan expressed pride in their earlier decision. “I think we partially broke the back of an emerging speculation in equities,” he said, noting they also had pricked a bubble in the bond market.
On March 22, the committee voted to raise rates another 1/4 percent, then voted for another 1/4 percent increase on April 18.
At the May 17 committee meeting, Greenspan once more addressed what he called “the financial bubble,” noting that the economy was probably stronger than they all suspected.
“I think there’s still a lot of bubble around; we have not completely eliminated it. Nonetheless, we have the capability I would say at this stage to move more strongly than we usually do without the risk of cracking the system.
“The chances of our breaking the back of the economy at this point,” he said, “have to be pretty low.” He recommended a 1/2 percent increase and received unanimous support.
Personally, Greenspan was less than confident. To his knowledge, a soft landing had never been carried out successfully. He retained the image of jumping out a 60-story building, hoping to land on their feet. In any case, he felt they were grappling—or plummeting—through a fog.
• • •
At the White House, the president was increasingly restless. Was this necessary? Was Greenspan going too far? Did he know what he was doing?
Rubin and Bentsen insisted everything was okay.
Clinton grew angrier and angrier. When he blew up about rising interest rates, as he frequently did, the members of his economic team let him blow off steam and then urged him to continue to confine his distress to the privacy of the Oval Office. Any reasonable Fed was going to have to pull the foot off the accelerator, they told him. The low fed funds rate had been pumping up the economy, so interest rates were going to have to go up to cool things off. All the economic models built on years of history showed there was a limit to how high growth could go without triggering inflation. To complicate matters, the economists believed—and recent American economic history showed—that there was a level of so-called full employment. There was a limit on how low the unemployment rate could go without triggering inflation, and it was thought that the range wa
s 6 to 7 percent. This lower limit was called the NAIRU—the non-accelerating inflation rate of unemployment. The unemployment rate had started the year above 6 percent and was heading down.
Even Rubin insisted that there was an optimum full employment rate of growth.
The president was skeptical and even outraged. So the problems were too much economic growth and too many people working! It was ridiculous, he seethed.
Rubin believed that the president had chosen correctly with an economic plan of deficit reduction and fiscal discipline. As a Democrat, Clinton was going to have more difficulty getting credibility from the business community and Wall Street than a Republican. There were lingering reservations about tax-and-spend Democrats, and the key was to build confidence, stick to the plan. It would take time, because during the last 12 years of Republican administrations there had been little fiscal discipline. In the overall picture, the Fed’s role was to help create that discipline. The president had to let Greenspan do that job.
Once, when Greenspan had an appointment to see the president, Clinton and his economic team were assembled in the Oval Office. As they waited for the chairman to arrive, the president had launched into a comedic imitation of the chairman. Speaking in a gloomy, deep voice, he mimicked Greenspan drumming on inflation. Inflation! Inflation was all-important. Inflation was the center of the universe. Inflation! Inflation! It was a pretty good caricature, and his advisers were in stitches. One checked nervously to make sure the soundproof Oval Office doors were shut tight so the chairman wouldn’t hear.
Now there were no jokes coming out of the Oval Office about Greenspan.
Worse, the bond market had gone to hell. The long-term rates were shooting up, nullifying the gains from the 1993 deficit reduction plan. Where was the payoff? the president wanted to know.
• • •
Mortimer B. Zuckerman, the wealthy real estate entrepreneur and the owner and editor in chief of U.S. News & World Report, launched a campaign against Greenspan’s rate increases as unnecessarily choking the economy. In his magazine column, Zuckerman kept up a week-by-week drumbeat that mocked phantom “inflationary expectations” and Greenspan’s “Delphic utterances.” In Zuckerman’s view, the Fed chairman had failed “to understand that huge productivity and efficiency gains have restructured the U.S. economy and fundamentally transformed the prospects for inflation.” After a number of these critical columns, Zuckerman ran into Greenspan.
“What do you know about monetary policy that I don’t?” Greenspan asked disparagingly.
Zuckerman said that he regularly talked with people in the real economy in a wide range of businesses—largely his own.
How many do you think I speak to? Greenspan inquired, noting the organized effort throughout the Fed’s 12 districts to speak with hundreds of sources of information.
Zuckerman invited Greenspan to come speak to the U.S. News editorial board. He found Greenspan’s talk there the single most brilliant exposition of the economy that he had ever heard—but continued to pound on him nevertheless.
9
* * *
GET SOME Democrats on the Fed, President Clinton instructed his economic advisers. The entire board was made up of Reagan and Bush appointees. But now board vice chairman David Mullins was resigning to go make money, and Governor Angell’s term had expired. Clinton could name two governors to the seven-member board, his first Fed appointments. With interest rates rising, he wanted Treasury and the White House staff to move fast. The instructions weren’t quite “Sink Greenspan,” but the president wanted some counterweight on the Fed.
The search began for two academic economists who were Democrats and who would be at least sympathetic to Clinton’s overall economic policies.
Rubin sought out Alan Blinder, the deputy on the president’s Council of Economic Advisers, one of his allies in the White House.
How about being the Fed vice chairman? Rubin asked.
A little over a year earlier, Blinder, who was the pride of Princeton’s Economics Department and author of numerous economics books admired for their scholarship and clarity, had given President-elect Clinton what Rubin saw as a critical briefing on the economy. Blinder, 48, a tall, thin, balding academic with thick glasses, had the uneasy erudition of many professors, but he also had a sense of humor that demonstrated he knew how dry and pedantic economics could be. In a lecture loaded with charts and economic theory, Blinder had argued that an aggressive deficit reduction plan might lower long-term interest rates—the key to building a strong economy—and raise the standard of living for everyone. As the implications of Blinder’s words dawned on Clinton, the president-elect turned red and, in a critical moment of self-awareness, declared: “You mean to tell me that the success of the program and my reelection hinges on the Federal Reserve and a bunch of fucking bond traders?” The uncomfortable answer was yes.
Blinder kept one foot in the traditional mainstream liberalism that looked out for those on the bottom of the economic ladder, but he was a Democrat who didn’t use the class-warfare rhetoric Rubin detested. In Rubin’s view, Blinder was just about the right mix.
Blinder had earlier declined appointment as one of the Fed’s seven governors, but now he thought hard about Rubin’s offer. The job at the Fed meant a step up in the Washington pecking order. A Fed governor was C list, anonymous politically and socially, which was about where Blinder was with his current White House position. Vice chairman of the Fed would put him on the B list. As he thought about whether to take the job, Blinder admitted to himself that he had a human foible, shared by many in Washington—status.
Blinder figured that the vice chairmanship would offer him a seat at the table and a hand in the great interest rate game. Part of his job at the Council of Economic Advisers had been to phone Greenspan a day in advance of the release of the various Commerce and Labor Department economic statistics. He marveled at how Greenspan wallowed in the numbers, frequently asking questions that sent him deep into the charts. Greenspan and he would be number one and two at one of the most important arms of the most important government in the world. After about a day, Blinder told Rubin yes.
When Greenspan got word that Blinder would be coming as the new vice chairman, he asked Mullins to conduct a due diligence review, to check out Blinder’s previous publications and statements. Just so we have no surprises, the chairman said.
Mullins dug into columns that Blinder had written for Business-Week, old articles and books. Blinder had criticized Volcker for clamping down too hard on inflation, declaring at one point that the American economy was not like a Vietnamese hamlet that must be destroyed in order to be saved. In his 1987 book, Hard Heads, Soft Hearts, Blinder wrote that there was too much hysteria about the evils of inflation. Inflation was more like a head cold than a serious disease, and you don’t prescribe a lobotomy for a head cold.
Several days later, Mullins, looking worried, came to see Greenspan.
“It’s not perfect,” he said.
Greenspan grimaced.
“Don’t worry,” Mullins said, “it’s not like he’s a Communist or anything. It’s just in his early publications he’s noticeably soft on inflation.” He provided chapter and verse.
Greenspan quipped, “I would have preferred he were a Communist.”
• • •
Before he joined the Fed, Blinder had several encouraging conversations with the chairman. Greenspan indicated that the board was shorthanded, needed help and would welcome Blinder. The chairman provided him with a very frank assessment of the strengths and weaknesses of the various other board members.
In the period after his nomination, Blinder followed his own press clippings carefully. The initial press coverage was flattering. Though a piece in The New York Times characterized Blinder as an inflation dove who “does not see inflation as a problem,” most of the stories, like the Associated Press piece on the day of his Senate confirmation, noted that the appointment “could put him in line” to succeed
Greenspan as chairman. Other stories dubbed Blinder Greenspan’s “likely successor,” and one story in Investor’s Business Daily included a brash prediction from the chief economist at a large Wall Street firm: “A new coalition will form around Blinder. I think this is the beginning of the end for Greenspan.” Because Blinder was the first Democratic appointee to the Fed in more than 12 years, the press simply assumed that Blinder would vie for the chairmanship with the Republican Greenspan, whose term was set to expire in March of 1996.
Blinder knew that no vice chairman had ever ascended to the chairmanship. When the press began to talk about him as Greenspan’s heir, Blinder said little to fan the flames, but he also made little effort to extinguish them. He said nothing about the press coverage to Greenspan, and the chairman, who had been following the news reports, did not raise the subject.
On the morning of June 27, the day after his official confirmation in the Senate, Blinder and his wife, Madeline, arrived at the Fed building on Constitution Avenue. Greenspan swore Blinder in as vice chairman, and photographers snapped pictures of the new Fed leadership team. After the ceremony ended, the chairman said he had arranged for two governors and some staff to take Blinder to lunch—and then walked out the door. Good-bye.
Blinder wasn’t sure what to make of it all, but his wife told him that the reception seemed ominously cold. On day one, minute one, the chairman was out the door as soon as he could be. What could it mean?
• • •
Several days before Blinder’s second FOMC meeting on August 16, Greenspan’s secretary called him to say that the chairman was coming over to see him.
Greenspan appeared promptly. “This thing,” the chairman said, referring to the overall economy, “is heating up.” He made it clear that he wanted to raise rates 1/2 percent at the next meeting.
