by Matt Taibbi
Greenspan was even dumb enough to take the Y2K scare seriously, flooding the markets with money in anticipation of a systemwide computer malfunction that, of course, never materialized. We can calculate how much money Greenspan dumped into the economy in advance of Y2K; between September 20 and November 10, 1999, the Fed printed about $147 billion extra and pumped it into the economy. “The crucial issue … is to recognize that we have a Y2K problem,” he said at the century’s final FOMC meeting. “It is a problem about which we don’t want to become complacent.”
Again, all of these rate cuts and injections—in response to LTCM, the emerging markets crash, and Y2K—were undertaken in the middle of a raging stock market bubble, making his crisis strategy somewhat like trying to put out a forest fire with napalm.
By the turn of the century, the effect of Greenspan’s constant money printing was definite and contagious, as it was now widely understood that every fuckup would be bailed out by rivers of cheap cash. This was where the term “Greenspan put” first began to be used widely.
Aside: a “put” is a financial contract between two parties that gives the buyer the option to sell a stock at a certain share price. Let’s say IBM is trading at 100 today, and you buy 100 puts from Madonna at 95. Now imagine the share price falls to 90 over the course of the next two weeks. You can now go out and buy 100 shares at 90 for $9,000, and then exercise your puts, obligating Madonna to buy them back at 95, for $9,500. You’ve then earned $500 betting against IBM.
The “Greenspan put” referred to Wall Street’s view of cheap money from the Fed playing the same hedging role as a put option; it’s a kind of insurance policy against a declining market you keep in your back pocket. Instead of saying, “Well, if IBM drops below ninety-five, I can always sell my put options,” Wall Street was saying, “Well, if the market drops too low, Greenspan will step in and lend us shitloads of money.” A Cleveland Fed official named Jerry Jordan even expressed the idea with somewhat seditious clarity in 1998:
I have seen—probably everybody has now seen—newsletters, advisory letters, talking heads at CNBC, and so on saying there is no risk that the stock market is going to go down because even if it started down, the Fed would ease policy to prop it back up.
Eventually, the Iowa professor Paul Weller, along with University of Warwick professors Marcus Miller and Lei Zhang, would formally identify this concept in a paper called “Moral Hazard and the U.S. Stock Market: Analyzing the ‘Greenspan Put.’ ” By then, however, the term “Greenspan put” had been around for years, and the very fact that it was now being formally studied is evidence of the profound effect it had on the markets.
“Investors came to believe in something the Fed couldn’t really deliver,” says Weller now. “There was this belief that the Fed would always provide a floor to the market.”
“His effect on the psychology is the most important thing you have to look at,” says the manager of one well-known hedge fund. “There was this belief that Greenspan would always be the lender of last resort, that we would always have the government bail us out.”
“It was all psychological. If people just thought Greenspan was in charge, things would be okay,” says Wesbury. “Even John McCain said that if Greenspan were ever to die, he would just prop him up in the corner and put sunglasses on him, like in Weekend at Bernie’s.* The belief that he would be there is the thing.”
“It’s a two-pronged problem,” says Fleckenstein. “Number one, he’s putting in this rocket fuel to propel the speculation. And number two, he’s giving you the confidence that he’s going to come in and save the day … that the Fed will come in and clean up the mess.”
The idea that Greenspan not even covertly but overtly encouraged irresponsible speculation to a monstrous degree is no longer terribly controversial in the financial world. But what isn’t discussed all that often is how Greenspan’s constant interventions on behalf of Wall Street speculators dovetailed with his behavior as a politician and as a regulator during the same period.
Even as Greenspan was using the vast power of the state to bail out the very assholes who were selling back-of-the-napkin Internet startups to pension funds or betting billions in borrowed cash on gibberish foreign exchange derivative trades, he was also working round the clock, with true Randian zeal, to destroy the government’s regulatory infrastructure.
As chief overseer of all banking activity the Fed was ostensibly the top cop on the financial block, but during his years as Fed chief Greenspan continually chipped away—actually it was more like hacking away, with an ax—at his own regulatory authority, diluting the Fed’s power to enforce margin requirements, restrict derivative trades, or prevent unlawful mergers. What he was after was a sort of cynical perversion of the already perverse Randian ideal. He wanted a government that was utterly powerless to interfere in the workings of private business, leaving just one tool in its toolbox—the ability to funnel giant sums of money to the banks. He turned the Fed into a Santa Claus who was legally barred from distributing lumps of coal to naughty kids.
Greenspan’s reigning achievement in this area was his shrewd undermining of the Glass-Steagall Act, a Depression-era law that barred insurance companies, investment banks, and commercial banks from merging. In 1998, the law was put to the test when then–Citibank chairman Sandy Weill orchestrated the merger of his bank with Travelers Insurance and the investment banking giant Salomon Smith Barney.
The merger was frankly and openly illegal, precisely the sort of thing that Glass-Steagall had been designed to prevent—the dangerous concentration of capital in the hands of a single megacompany, creating potential conflicts of interest in which insurers and investment banks might be pressed to promote stocks or policies that benefit banks, not customers. Moreover, Glass-Steagall had helped prevent exactly the sort of situation we found ourselves subject to in 2008, when a handful of companies that were “too big to fail” went belly up thanks to their own arrogance and stupidity, and the government was left with no choice but to bail them out.
But Weill was determined to do this deal, and he had the backing of Bill Clinton, Clinton’s Treasury secretary Bob Rubin (who would go on to earn $100-plus million at postmerger Citigroup), and, crucially, Alan Greenspan. Weill met with Greenspan early in the process and received what Weill called a “positive response” to the proposal; when the merger was finally completed, Greenspan boldly approved the illegal deal, using an obscure provision in the Bank Holding Company Act that allowed the merger to go through temporarily. Under the arrangement, the newly created Citigroup would have two years to divest itself of its illegal insurance company holdings, plus three additional years if Greenspan approved a series of one-year grace periods. That gave all the parties involved time to pass a new law in Congress called the Gramm-Leach-Bliley Act, which would legalize the deal post factum.
It was a move straight out of Blazing Saddles: Greenspan basically had this newly formed megafirm put a gun to its own head and pull the “One move and the nigger gets it!” routine before Congress.
Greenspan himself put it in even starker terms, not so subtly threatening that if Congress failed to play ball, the state would be forced to pay for a wave of insurance and banking failures. “Without congressional action to update our laws,” he said in February 1999, “the market will force ad hoc administrative responses that lead to inefficiencies and inconsistencies, expansion of the federal safety net, and potentially increased risk exposure to the federal deposit insurance funds.”
Congress had fought off pressure to repeal Glass-Steagall numerous times in the eighties and early nineties, but this time, in the face of Greenspan’s threats and this massive deal that had already been end-run into existence, it blinked. Gramm-Leach-Bliley thus became law, a move that would lead directly to the disasters of 2008.
And once he was finished with Glass-Steagall, Greenspan took aim at the derivatives market, where a rogue government official named Brooksley Born had committed the cardinal sin
of suggesting that derivatives, like foreign exchange swaps and credit default swaps, posed a potential danger to the economy and might be necessary to regulate. Born, at the time the head of the Commodity Futures Trading Commission, which has purview over derivatives, had in the spring of 1998 issued something called a concept release, sort of the government bureaucracy version of a white paper, calling for suggestions on potential regulation of the over-the-counter derivatives market. The twenty-odd-page paper detailed many of the potential risks of derivative trading and today looks a lot like a Nostradamus testament, so accurately does it predict derivative-fueled disasters like the collapse of AIG.
When a draft of Born’s concept release began circulating on the Hill in March and April of that year, Bill Clinton’s inner circle on economic matters—including former Goldman chief and then–Treasury secretary Bob Rubin, his deputy Gary Gensler, Greenspan at the Fed, and then–SEC chief Arthur Levitt—all freaked out. This was despite the fact that Born hadn’t even concretely proposed any sort of regulation yet—she was just trying to initiate a discussion about the possibility of regulation. Nonetheless, a furor ensued, and at a critical April 21, 1998, meeting of the President’s Working Group on Financial Markets—a group that includes primarily the heads of the Treasury (at the time, Rubin), the SEC (Levitt), the CFTC (Born), and the Fed (Greenspan)—the other members openly pressured Born to retrench.
“It was a great big conference table in this ornate room that the secretary of the Treasury had,” says Michael Greenberger, who at the time worked under Born as the head of the CFTC’s Division of Trading and Markets. “Not only were the four principals there, but everybody in the government who has any regulatory responsibility for financial affairs was there—the comptroller of the currency, the chairman of the FDIC, the Office of Thrift Supervision, the White House adviser, the OMB, the room was packed with people.
“And if you were a staff member, you sat behind your principal,” he goes on. “My seat was directly behind Brooksley and Greenspan. I could have reached out and touched either one of them. And Greenspan turned to her, and his face was red, and he wasn’t hollering, but he was quite insistent that she was making a terrible mistake and that she should stop.”
Born had complete legal authority to issue her concept release without interference from the Working Group, the president, or anyone else—in fact, the seemingly overt effort to interfere with her jurisdiction was “a violation, maybe even rising to the level of a criminal violation,” according to Greenberger. Despite these legally questionable efforts of Rubin and Greenspan, Born did eventually release her paper on May 7 of that year, but to no avail; Greenspan et al. eventually succeeded not only in unseating Born from the CFTC the next year, but in passing a monstrosity called the Commodity Futures Modernization Act of 2000, which affirmatively deregulated the derivatives market.
The new law, which Greenspan pushed aggressively, not only prevented the federal government from regulating instruments like collateralized debt obligations and credit default swaps, it even prevented the states from regulating them using gaming laws—which otherwise might easily have applied, since so many of these new financial wagers were indistinguishable from racetrack bets.
The amazing thing about the CFMA was that it was passed immediately after the Long-Term Capital Management disaster, a potent and obvious example of the destructive potential inherent in an unregulated derivatives market. LTCM was a secretive hedge fund that was making huge bets without collateral and keeping massive amounts of debt off its balance sheet, à la Enron—the financial equivalent of performing open heart surgery with unwashed hands, using a Super 8 motel bedspread as an operating surface.
None of this fazed Greenspan, who apparently never understood what derivatives are or how they work. He saw derivatives like credit default swaps—insurance-like contracts that allow a lender to buy “protection” from a third party in the event his debtor defaults—as brilliant innovations that not only weren’t risky, but reduced risk.
“Greenspan saw credit derivatives as a device that enhanced a risk-free economic environment,” says Greenberger. “And the theory was as follows: he’s looking at credit derivatives, and he’s saying everyone is going to have insurance against breakdowns … But what he didn’t understand was that the insurance wasn’t going to be capitalized.”
In other words, credit default swaps and the like allowed companies to sell something like insurance protection without actually having the money to pay that insurance—a situation that allowed lenders to feel that they were covered and free to take more risks, when in fact they were not. These instruments were most often risk enhancers, not risk eliminators.
“It wasn’t like buying insurance, car insurance, life insurance, something else, where it’s regulated and the companies have to be capitalized,” Greenberger goes on. “These guys were selling insurance without being capitalized.” AIG, which imploded in 2008 after selling nearly a half billion dollars’ worth of insurance despite having practically no money to pay off those bets, would end up being the poster child for that sort of risk.
But this problem should have been obvious way before AIG, particularly to someone in Greenspan’s position. In fact, even by 1998, by the time LTCM was over, the country had already experienced numerous derivatives-based calamities: the 1987 crash, the Orange County bankruptcy of 1994, the Bankers Trust scandal of 1995, and LTCM. Nonetheless, Greenspan refused to see the danger. In March 1999, just months after he himself had orchestrated a bailout for LTCM, he said that “derivatives are an increasingly important vehicle for unbundling risk.” He then said he was troubled that the “periodic emergence of financial panics” had inspired some to consider giving regulators more power to monitor derivative risk, instead of leaving the banks to monitor risk on their own.
An example of the kind of private “monitoring” that Greenspan championed was Long-Term Capital Management’s risk models. According to the fund’s initial calculations, it would lose 50 percent of its portfolio only once every 1030 days, i.e., one would have to sit and wait for several billion times the life of the universe for such a disaster to happen. The fund would actually lose pretty much its entire portfolio just a few years into its existence.
Nonetheless, Greenspan just months after this collapse said that regulators’ risk models were “much less accurate than banks’ risk measurement models.” This was the line he sold to Congress before it passed the CFMA; he also insisted that the derivatives market needed exemptions from regulation in order to remain competitive internationally. But he made clear his real reasons for pushing derivatives deregulation in a speech to the Futures Industry Association in March 1999:
It should come as no surprise that the profitability of derivative products … is a factor in the significant gain of the overall finance industry’s share of American corporate output during the past decade. In short, the value added of derivatives themselves derives from their ability to enhance the process of wealth creation.
Translating that into English: I recognize that derivatives are making everyone shitloads of money, so I’ll leave them alone.
It was in the immediate wake of all these historically disastrous moves—printing 1.7 trillion new dollars in the middle of a massive stock bubble, dismantling the Glass-Steagall Act, deregulating the derivatives market, blowing off his regulatory authority in the middle of an era of rampant fraud—that Greenspan was upheld by the mainstream financial and political press as a hero of almost Caesarian stature. In February 1999, Time magazine even put him on the cover, flanked by Clinton officials Bob Rubin and Larry Summers, next to the preposterous headline “The Committee to Save the World: The inside story of how the Three Marketeers have prevented a global economic meltdown—so far.”
That these guys were actually anti-Marketeers who had not prevented but caused an economic meltdown was an irony that even in retrospect was apparently lost on Time, which would make the exact same idiotic mistake in 2009, when it
made Greenspan’s similarly bubble-manic successor, Ben Bernanke, its Person of the Year. In any case, the 1999 Time cover captured Greenspan at his peak; he had used the Fed’s power to turn himself into the great indispensable superhero of the investor class, worshipped on the one hand for the uncompromising free-market orthodoxy of his crotchety public statements, and giddily prized on the other hand for his under-the-table subsidies of the nation’s bankers.
But even as Greenspan sheltered Wall Street from changes in the weather, when it came to using the Fed’s powers to rein in abuses he proclaimed helplessness before the forces of the free market. The same person who intervened to counteract the market’s reaction to the implosion of Long-Term Capital Management and the Russian ruble even had the balls to tell Congress that he, Alan Greenspan, did not have the right to question the wisdom of the market, when for instance the market chose to say that a two-slackers-in-a-cubicle operation like theglobe.com was worth $500 billion.
“To spot a bubble in advance,” he told Congress in 1999, “requires a judgment that hundreds of thousands of informed investors have it all wrong.” He added, with a completely straight face, “Betting against markets is usually precarious at best.”
Some said he was just naïve, or merely incompetent, but in the end, Greenspan was most likely just lying. He castrated the government as a regulatory authority, then transformed himself into the Pablo Escobar of high finance, unleashing a steady river of cheap weight into the crack house that Wall Street was rapidly becoming.
