Despite mountains of evidence showing it to be untrue, the belief persists among many Alan Greenspan critics that the Fed’s low interest rate policies of the early 2000s magically made credit “easy” on the way to a housing boom. This rates prominent mention simply because in his fawning new biography of the former Fed Chairman, The Man Who Knew, Sebastian Mallaby further disproves what was never true. On purpose or maybe unwittingly, Mallaby reveals through his subject’s writings in the 1970s that the interbank borrowing rate (Fed funds rate) targeted by the Federal Reserve has little to do with the health of the housing market.
Mallaby writes that when Greenspan returned from the Gerald Ford administration to his Townsend-Greenspan economic consultancy in 1977, employee Kathryn Eickhoff “had been telling clients that a hot housing market was driving consumer spending: people were taking out second mortgages on their homes and using the proceeds to remodel their kitchens or purchase new cars, turbocharging the economy.” So while Eickhoff’s belief that housing consumption could drive economic growth was as wrongheaded in the 1970s as it was in the 2000s, her research is yet another reminder that the Fed’s low rate policies had little to do with the housing boom of more recent vintage. We know this because the Fed’s funds rate was soaring in the 70s.
Interesting about all this is that when initially told of what his employee had been reporting to clients, the empiricist in Greenspan grumbled that Eickhoff failed to “get the data” to prove her argument. Greenspan proceeded to gather up the numbers only to admit to Eickhoff that she “had absolutely no idea of the size of this phenomenon.” We’ve seen the housing froth movie of the 2000s before; albeit in the 1970s when the Fed was aggressively hiking rates.
Indeed, further on in his re-telling of the late 70s that Greenspan plainly saw, Mallaby writes that despite the fact that “the Fed had just increased the short-term interest rate to 9 percent….mortgages were still easy to come by and house prices were booming.” Mallaby adds on the same page that “One decade earlier [in the 60s], new mortgage creation had seldom exceeded $15 billion per year. Now six times that quantity was normal.” Later on Mallaby noted that “home prices had nearly tripled during the 1970s.” The money quote regularly used by this reviewer to reveal conventional wisdom about the Fed and housing vitality as wanting comes care of George Gilder. Observing the 70s housing boom alongside a soaring Fed funds rate much as Greenspan did in his 1981 book Wealth and Poverty, Gilder wrote “What happened was that citizens speculated on their homes…Not only did their houses tend to rise in value about 20 percent faster than the price index, but with their small equity exposure they could gain higher percentage returns than all the but the most phenomenally lucky shareholders.”
The 70s reveal popular arguments about the Fed’s role in the slow-growth housing rush of the 2000s as wildly false. Not only does consumption of housing shrink economic growth (the latter the principal flaw in the Townsend-Greenspan thesis which said housing consumption was a stimulant), it soars for reasons unrelated to the central bank’s rate target. Getting into specifics, hard assets do well during periods of currency weakness. The U.S. Treasury devalued the dollar in both the 70s and 2000s. So while the Fed employed interest rate policies in the 2000s that were the exact opposite of how it operated in the 70s, the result was the same. The Fed was and is largely a sideshow when it comes to housing health (or lack thereof) despite what we’re frequently told.
That Mallaby easily exposed modern thought about the Fed as flawed speaks to the certain value of what is a mostly flawed book. Mallaby is nothing if not a prodigious researcher. His history of hedge funds (More Money Than God) is almost tiring (this is meant as a compliment) to read so copious is the detail Mallaby brought to the subject. The author brings the same detail to his biography of Greenspan such that central bank watchers will find themselves with all sorts of new and interesting information. That’s the good part. But there’s so much in the book that is plainly wrong.
One of many problems with his biography of Greenspan is that Mallaby frequently contradicts himself. With no fixed beliefs other than Keynesian certitude that economic growth can be planned by the presumed geniuses in government, Mallaby contradicts himself toward the end of The Man Who Knew about the role of the Fed’s alleged control of the funds rate and its impact on housing. Writing on p. 597, Mallaby contends that the central planner in Greenspan “pushed down borrowing costs [from 2001-2004] about as far as they could go and his actions fueled the climb in house prices that built steadily in 2002 and 2003, reaching its wildest and frothiest extremes in the two years that followed.” Mallaby bolsters what contradicts his earlier history with a quote from Paul Krugman about how Greenspan created “a housing bubble to replace the Nasdaq bubble.”
Missed by Mallaby is that housing is not investment, and as such it can’t power growth. Housing is consumption. When one purchases a house, the purchase doesn’t expand foreign markets for the individual, it doesn’t render the individual more competitive, nor does it lead to cancer cures or software innovations that elongate life while making the individual more productive. To the Keynesian in Mallaby spending is growth, no matter what. Who cares that the rush into housing signaled a rush away from the risk – and frequent investment failure – that powers progress. The housing boom of the 2000s, much like that of the 1970s, didn’t signal growth as much as it logically signaled contraction thanks to consumption of what has nothing to do with economic growth soaking up precious capital over entrepreneurial commercial pursuits. The housing boom amounted to a capital deficit for the productive parts of the economy.
Furthermore, even if one believed what is wholly illogical, that the Fed could or can manufacture credit (meaning real economic resources) out of thin air, never explained by Mallaby or anyone else is why allegedly “easy credit” would flow into housing over more remunerative, economy enhancing pursuits. To Mallaby, the Fed is the principal source of credit as opposed to a not-so-consequential (remember, housing boomed in the 70s despite rising rates from the Fed) mis-allocator of it. The Fed doesn’t ease or tighten, rather it mistakenly presumes to properly allocate more or less of the resources already created in the real economy. No one borrows dollars; rather borrowers of dollars are borrowing access to trucks, tractors, computers, desks, chairs, and most of all, labor. Contrary to what Mallaby contends, the amount of credit in the U.S. economy would remain the same whether we had a central bank or not; the sole difference being that absent the Fed fewer resources would be directed to the wrong stewards.
It’s not unreasonable to say up front that Mallaby was the wrong person to write an exhaustive book about Greenspan. To read Mallaby’s account is to detect slim knowledge of economics itself. A thoroughgoing Keynesian, Mallaby writes his new book almost totally free of the criticism necessary for a proper account of the man and the institution he spent years researching. Aside from his perhaps unwitting unmask of the conventional wisdom about housing, Mallaby has written a book almost totally bereft of nuance, or skepticism about what’s generally believed by economists. The book reads like a breathy Vanity Fair profile, only much longer.
A better accounting of the Fed itself would have at least asked why people pay so much attention to an entity that channels its alleged economic influence through a banking system that’s not just antiquated, but that is shrinking by the day. At present banks account for 15% of total lending in the U.S. economy. Not only is the previous number in freefall, it can’t be forgotten that banks are the least dynamic source of credit in the U.S. economy. How then, could an institution like the Fed, interacting with what is the opposite of innovative, have any kind of substantive influence on what is the most dynamic economy in the world? Mallaby never asks. Instead, he ascribes to the Fed and its modern chairs magisterial powers. In Mallaby’s telling, Greenspan is “the most influential economic statesman of his time.” About Greenspan’s predecessor in Paul Volcker, Mallaby swoons that he had “turned the chairmanship of the Fed into a job of Churchillian proportions.” Really? The same Fed that interacts with banks?
To Mallaby, Volcker licked inflation through his focus on money supply, but by the author’s own admission Volcker’s ill-fated flirtation with discredited monetarist quantity targets began in October of 1979. Important about this is that the dollar plummeted in response on the way to gold hitting a then all-time high in January of 1980. Not addressed by the author is why the Fed’s fiddling with dollar supply flowing into banks would have some enormous impact on a globalized dollar world, but that’s really not the point. A better accounting of the Fed and the traditional view of inflation (a decline in the unit of account; in our case a decline in the value of the dollar) would have had Mallaby concluding that the Fed is not charged (nor has it ever been charged) with overseeing the dollar’s exchange rate as is. Figure that Fed Chairman Eugene Meyer was powerless to stop FDR’s devaluation of the dollar in 1933. He resigned over FDR’s decision. Fast forward to 1971, Fed Chairman Arthur Burns begged President Nixon and Treasury Secretary John Connolly to not devalue the dollar through severance of the greenback’s link to gold. And while Volcker’s focus on monetary aggregates did nothing to stop the dollar’s late 70s slide, the rising electoral chances of Ronald Reagan in 1980 (Mallaby makes it known with unrestrained contempt that Reagan believed the dollar’s value should be governed by a price rule) surely did stop its plummet. Markets are always pricing in the future, and they plainly priced in the election of someone who saw money’s purpose as a measure (“the sole use of money is to circulate consumable goods” – Adam Smith), as opposed to something that floats; thus depriving money of its singular use. The value of the dollar is a political concept far more than it is a Fed concept, but Mallaby failed to report this historical truth. So do many Fed critics gloss over same to this day.
The Man Who Knew is a book that economists will love simply because it elevates the Federal Reserve, a full employment act for economists, to a level of relevance that it plainly doesn’t have except in the eyes of media members and academics with very little real world experience. Let’s not forget once again that the Fed’s influence channel is a banking system that shrinks by the day. Banks weren’t a dominant force in credit allocation in 1913, and they surely aren’t now.
To Mallaby, the Federal Reserve quite literally manages economic growth despite a 20th century that revealed in brutal and bloody fashion how contractionary is the central planning that the author reveres. There are so many examples in his retelling of Greenspan, but with partial brevity in mind it should be pointed out that on p. 416 he recalls how Greenspan “had allowed the economy to overheat, setting the stage for the 1990-91 recession. He had then switched to playing the hard man, but he had stuck with that approach too long, underestimating the drag on the recovery from the real estate bust.” On p. 511, and while recounting Greenspan’s tight relationship with the Clinton administration, Mallaby noted how the Fed Chairman’s “economic stewardship had given them four more years in the White House.” On p. 569, and while addressing the George W. Bush administration’s embrace of the central banker, Mallaby referred to Greenspan as “the undisputed architect of American prosperity.” So taken was Mallaby with his subject that he forgot the basic truth that prosperity emerges precisely because it’s not planned. Far from designing American prosperity as Mallaby naively suggests, the fact that the U.S. economy boomed during Greenspan’s Fed tenure was the surest evidence of just how powerless a central bank interacting with antiquated banks was to influence the most advanced economy in the world. If Greenspan were the force that Mallaby wants his readers to believe he was, the U.S. economy would have been intensely weak during the alleged “Maestro’s” time at the Fed.
After that, it’s essential to return to the almost total lack of nuance or desire to critique that informed a book that is about one man, but that also presumes to be a book about economics. Particularly with the latter in mind, any critical read of Mallaby’s work causes one to conclude that he was once again the wrong person to write what is billed as the definitive account of Alan Greenspan. Owing to his inability or unwillingness to question what is accepted by the economics profession, Mallaby regularly deprives the reader of any useful insights about economics, along with the man most associated with economics. The list is long:
- On p. 4 the author concludes that the Fed “converted the recession of the 1930s into the Great Depression.” That’s what’s commonly believed by economists, but had Mallaby done more digging he would have known that the Fed had but one mandate in the 1930s: lender of last resort to solvent banks. Importantly, solvent banks didn’t need Fed loans in 30s, at which point any central bank aid to insolvent banks would have weakened the system overall in much the same way that Silicon Valley would be a shadow of its grand self today if a central authority had bailed out Webvan, eToys and theglobe.com in the early 2000s. The Fed’s presumed failure to increase so-called “money supply” is the conventional view of why it allegedly erred in the 30s, but then money supply is always and everywhere an effect of economic growth, not a driver of it. Massive barriers to production were erected by the Hoover and Roosevelt administrations in the 30s such that production plummeted. The latter was the driver of the dollar “supply” decline. Let’s not forget that during the 1920-21 recession that was much greater than the one in 1929-30, money supply similarly declined sans a decade-long recession. The difference between the two decades is that in the 20s the federal government got out of the way, but in the 30s it did not. The Fed acted properly in the 30s. Its mandate was slim.
- On p. 27 Mallaby writes that “The nation had been pulled out of the Depression by war spending.” Sorry, but the author puts the cart before the horse. Governments can only spend insofar as the private economy is growing to support the spending. The New Deal essentially ended in 1938 after failing impressively as a driver of economic growth, so with the economy growing again thanks to less government intervention the federal government had greater means to enter what became World War II. After that, to believe that the war ended the Great Depression, one would have to believe that the U.S. economy was made stronger by the extermination of much of the developed world that its producers were selling to. One would have to believe that the U.S. economy gained from the death of over 800,000 able-bodied American men, not to mention the maiming of many more. One would have to believe that the division of labor that always and everywhere drives economic growth is in fact an economic retardant; that the U.S. was made better off economically by spending meant to destroy global wealth, markets and human beings as opposed to the growth of peaceful trade that expands both. One would have to believe that once the war ended, and federal spending plummeted, that the U.S. economy fell back into recession. But it didn’t, and it didn’t for obvious reasons.
- On p. 47, and referencing a Townsend-Greenspan report about bank lending, Mallaby wrote that the economic consultancy had known “all along” that “surges in bank lending could multiply the purchasing power in the economy, driving up the price of stocks, and indeed all other prices.” Not really. In this instance Mallaby could have simply tested his thesis by gathering a few friends together at a table only for the author to pull $1,000 out of his pocket to lend to the friend on his immediate right, only for that individual to then lend it to the next person, and then that person to the next. What he would have found is that in the aftermath of all the frenzied lending there would still have only been $1,000 at the table. Bank lending is no different. There’s no multiplication to speak of. For someone to borrow in order to spend, a saver must give up that right. And for an individual to attain $1,000 only to aggressively purchase shares, some other individual must sell shares. For every borrower there’s a saver, and for every buyer there’s a seller. These things balance.
- Writing more about banks on p. 297, Mallaby contends that “banks that make loans with a view to selling them are sometimes tempted to lend carelessly.” Mallaby isn’t the first to make such an uncritical statement, but it still requires analysis. Figure that the banks originating loans with an intent to sell them were and still do sell them to highly sophisticated institutions. Mallaby’s contention presumes that banks staffed with lesser talents did and continue to pull the wool over the eyes of their more sophisticated counterparties. Not very likely. Also missed here is the basic truth that 2008 revealed in living color: the financial institutions that required bailouts needed them precisely because they were eating their own cooking. Looked at in the bigger picture, thank goodness banks were spreading what were low-risk loans around. The establishment of a deep market for mortgages doubtless sped up the reveal that many were bad. And then for those who think bank health is essential for U.S. economic health (it’s not), the fact that some or a lot of the risk was offloaded ensured greater bank health in 2008 than would have otherwise been the case.
- Writing on p. 469 about the proliferation of derivatives that he correctly tied to the chaos wrought by the introduction of floating currencies in the 1970s, Mallaby noted with disapproval “the complexity of the most exotic contracts [that] made it easy [for investment banks] to rip off clients.” But as anyone who has ever worked in finance knows well, well paid employees of investment banks are providing financial services to large institutions and hedge funds populated by more talented and higher paid financiers. The very notion of these lesser talents ripping off their betters in finance defies basic common sense.
- Mallaby’s misread of finance and regulation of same revealed itself with great constancy. In the introduction he referenced a “free-wheeling free-for-all of the past quarter century” in finance, but on p. 657 contradicted himself with his discussion of Bear Stearns and Citigroup. Citi had sixty regulatory supervisors on site at all times, while Bear only had to put up with annual supervisory visits. Ok, but both were rescued; in Citi’s case it’s been bailed out five times in the last 25 years. Mallaby critiqued Greenspan’s early skepticism about regulation, but as Bear and Citi reveal, the early Greenspan was correct. With regulators we’re asking those who most often don’t rate jobs in financial institutions to police those who do rate those coveted jobs. Better yet, all industry sectors, and this includes financial institutions, gain their strength from failure. The problem in finance today is that there’s too little, not too much failure. To the rare extent that regulation succeeds, it weakens the businesses it's meant to aid.
- On p. 145, and while writing about the post-WWII economy, Mallaby observed that “To preserve the fixed [Bretton Woods] exchange rate, the United States had to avoid inflation, which would undermine the value of its money.” In truth, inflation is itself the devaluation of the money unit, which is the dollar. Whatever one thinks of the gold-exchange standard that President Nixon ended in 1971, it was the standard itself that was meant to maintain the dollar’s value against something real like gold in order to avoid any inflationary pressures. Mallaby gets it backwards.
- On p. 153, and commenting on the obvious inflationary pressures that would result from a dollar untethered from its Bretton Woods anchor, Mallaby writes that the “young seer [that would be Greenspan] had predicted the inflation that had come to pass.” The problem there is that there was nothing to predict. Departure from the Bretton Woods standard was an explicit devaluation. That was the purpose. No individual with even passable economic knowledge would need to summon predictive power to foretell what was already explicit. Love or hate the old gold exchange standard, departure from it was the inflation. Mallaby's giddiness about his subject proved hard for the author to contain. On p. 593 the author points to the how Greenspan's skepticism about Alvin Hansen's belief in "secular stagnation" had been vindicated. Ok, but the millions of mostly non Ph.Ds who've read Henry Hazlitt know well that the very notion of "secular stagnation" is monumentally absurd. Economies are always growing thanks to our desire to supply so that we can consume. Hazlitt's readers long ago "predicted" what had the author so enraptured about Greenspan. "Secular stagnation" is just a fancy term for government suffocating the natural desire of humans to produce. Mallaby regularly refers to Greenspan's "magisterial" paper in which the "seer" observed that markets at times get giddy, but there was nothing special about the paper simply because there was no insight. Markets are never just bulls, and they're similarly never just bears. The passions of both are constantly being represented. In fact, for a bull to express that optimism in the marketplace, he must find a bear eager to express a similar amount of pessimism. As for markets correcting, the latter is just as healthy as markets soaring. More on this later, but it can't be stressed enough that free markets derive strength from weakness.
- On p. 206, and in his history of Greenspan’s tenure as President Ford’s CEA head, Mallaby wrote about how Greenspan, having detected renewed economic growth (more on Greenspan’s economic forecasting skills later on), “counseled Ford that a ramp-up in government spending would not be necessary to keep the economy humming.” Implicit in Mallaby’s frequently unquestioning analysis of his subject was that government spending would boost economic growth. But why? Never explained by Mallaby, or for that matter any John Maynard Keynes disciple, is why the extraction of precious growth capital from the private sector so that politicians can consume it without market discipline will actually increase economic growth. Basic economic knowledge is not required in order to understand that market-disciplined actors will always and everywhere allocate the economy’s resources more skillfully (and to the economy’s betterment) than will politicians. A history that required critical analysis suffered for the lack of same. Mallaby added in this passage that “Whoever presided over economic policy in the late 1970s was therefore doomed to suffer huge reputational damage.” And while the latter was true, Mallaby’s analysis totally glossed over why: investment is the driver of economic growth, and when investors put capital to work they are explicitly buying dollar income streams in the future. Figure that the value of any company is a function of all the dollars that company is projected to earn in the future. Yet the dollar was in freefall in the 1970s. Is it any wonder that economic growth was so limp during that decade? Mallaby touched on none of this.
- Discussing Volcker on p. 232, Mallaby writes that the sainted Fed chair would “henceforth target the supply of money in the banking system – he would switch from manipulating the price of credit to policing the quantity of it.” Books could be written about the previous statement, but for now it should be pointed out that banks interacting with the Fed were and are but a small percentage of what is a globalized dollar credit world. To presume that the Fed’s fiddle with bank money supply would have some kind of control over what was global defied basic common sense. Mallaby himself referenced various bank regulations in the 70s (Regulation Q most notably) that presumed to govern the cost of credit, only for new sources of credit (money market funds, eurodollars to name but two) to sprout up around the regulated versions. Furthermore, money is not credit. When we seek credit we don’t seek money as much as we seek what money can be exchanged for. If money were in fact credit, Haiti and Honduras would have as much in their countries as we do in the U.S. On the same page Mallaby added that “Volcker could have halted inflation simply by raising interest rates aggressively.” If we ignore that the dollar fell throughout the 70s despite regular hikes in the Fed funds rate, Mallaby’s analysis once again glossed over the fact that the Fed was interacting then (and still does now) with one aspect of a globalized credit system. Even if one believes what is illogical, that the Fed’s rate machinations would cause economic resource accession to slow or idle, what Mallaby missed yet again is that banks represented but a fraction of total credit. Credit once again amounts to resource accession. What is mispriced doesn’t disappear as much as the substitute providers of credit fill in for what is not working. The economy was surely slow in the 70s, but for reasons unrelated to the Fed’s interaction with what was antiquated. Economists don’t like to discuss the value of the dollar, but the 70s rush into tangible and existing wealth like housing over equity income streams (the S&P 500 rose a mere 17% in the 70s) tells the tale of 70s malaise far more than does the Fed’s vain attempts to centrally plan the cost of credit.
- Speaking of gold and the dollar, on p. 265 Mallaby referenced the desire among some (including the president himself) in the Reagan administration to revive the dollar through a link to gold. Mallaby’s at this point predictable response was that “embracing the gold standard meant depriving the Fed of its power over the nation’s money.” Ok, and that’s a bad thing? The rule of fallible man is somehow superior to the rule of law? Throughout Mallaby points to the alleged difficulty of returning to a price rule, of the supposedly fabulist thinking among cranks calling for a dollar price rule, but then countless countries around the world presently peg their currencies to the dollar and euro without a problem. Why then would pegging to gold be so difficult? Money is a measure. Mallaby’s analysis would have been greatly improved had he stopped to ask himself whether or not the global economy has gained from the frenzied currency trading and hedging that has sprung from money having been deprived of what makes it most useful in the first place. Lest we forget, money was not a creation of the state. It was merely a creation of producers who needed a common (a common language as it were) measure to facilitate exchange.
- The problem as always, was that Mallaby was always too eager to accept conventional explanations without critique. Inflation has once again always been about the decline in the value of money. Modern economists have sadly perverted the truth about inflation, and have obnoxiously re-defined it as something that springs from too much economic growth. The infrequent critic in Mallaby accepts what is absurd, which means readers of The Man Who Knew are forced to read with great frequency passages like the one on p. 129 about how the “quest for full employment had caused inflation to rise.” As Mallaby sees it, as do most economists, economic growth causes inflation simply because goods and labor become scarce. The very notion is backwards, and not just because rising demand for goods tautologically signals rising production of goods. Lest we forget, the original ball point pen cost $15 compared to a modern reality in which a box of 60 Paper Mate ballpoints can be purchased on Amazon for $7.95. The first laser printer from Xerox cost over $17,000, but now they retail for under $100 on Amazon. The first brick size mobile phone cost $3,995 versus the personal computers in our pockets today that can be had for a fraction of the original Motorola price. Computers? IBM’s first mainframe in the 1960s cost over $1 million. Missed in a book that constantly misses is that economic growth is the biggest enemy of price increases. More to the point, economic growth is the surest sign that prices are falling. Labor shortages due to economic growth? The tractor, car, computer, ATM and the internet itself have collectively destroyed scores of millions of jobs, thus reducing alleged labor pressures. How often do you the reader call a travel agent when booking flights, or deal with a live human being when purchasing movie tickets? All that, plus don’t U.S. companies increasingly rely on the global labor force when they create goods and services? Economic growth is all about the reduction of prices, of the mitigation of alleged labor shortages, but Mallaby persists with the horrid and incorrect myth that recessions are necessary to fight inflation.
- Moving to p. 460, the central planning convert in Mallaby mocked the notion that the U.S. economy could grow more than 5 percent per year simply because the number “was fully twice the sustainable noninflationary rate, according to the Federal Reserve.” But in an economy of individuals, and that’s the only economy, growth rates regularly exceed 5 percent per year. The same is true for the corporations that comprise what we call the economy. Yet to Mallaby, the Fed was, and still is, all knowing. Growth beyond certain percentages conceived by economists at the Fed untouched by the real world is supposedly impossible without inflation despite the certain truth that economic growth is the greatest foe of rising prices man has ever conceived.
- Even those most madly in love sometimes find fault with the person whom they swoon about, and in Mallaby’s case he occasionally expressed disappointment with Greenspan through the musings of FOMC member Lawrence Lindsey. Lindsey was the FOMC skeptic when it came to rising markets in the 90s, and Mallaby quotes him as saying “As in the United States in the late 1920s and Japan in the late 1980s, the case for a central bank ultimately to burst the bubble becomes overwhelming.” Yet on p. 344 Mallaby’s hero in Greenspan “announced that he thought the stock market [of the 90s-early 2000s] was way too high” while asking “what he could do to improve the odds of a calm outcome.” Where does one begin? For one, Mallaby correctly mocks the Nixon administration’s attempts to control prices on p. 148, but somehow thinks it’s ok for the Fed to attempt the same thing in financial markets. Second, what would it matter what a central banker with no real skill at forecasting markets or the economy (more on that later) felt or feels about market prices? As Greenspan himself acknowledged in his own autobiography, Robert Rubin regularly warned him against inserting his opinions into the natural workings of markets. Markets quite simply are. They’re colorblind, they include the opinions of buyers and sellers, bulls and bears, along with those who choose to sit them out altogether. Of course the bigger story here, one glossed over by Mallaby, is that markets of all stripes gain their strength from corrections. The latter is perhaps difficult for the planner in Mallaby to wrap his mind around, but absent corrections (whether equity/bond prices, or economic more broadly) the economy’s limited resources would always remain stuck in the hands of sub-optimal stewards of capital. Corrections and recessions drive economic growth simply because when they’re taking place poor stewards of capital are being relieved of it so that better stewards can take their place. A constant theme in Mallaby’s book is one about the alleged horrors of the very corrections that are the source of economic progress. The fact that the U.S. economy remains the envy of the world even in its somewhat enervated state reveals Mallaby’s musings about a Fed “allowing” growth spurts and pricking bubbles as utter nonsense. If the Fed were once again a fraction as powerful as Mallaby wants us to believe, there would be no book for him to write simply because no one would have ever heard of the Fed or Greenspan. The vastly overstated prestige and power of the central bank springs from the fact that it’s not that powerful, but that it gets to meddle in an economy that, by virtue of its size, remains mostly free. Thank goodness.
- On p. 514 Mallaby asserted that a rising Thai baht meant that “Thailand lost competitiveness and its trade deficit swelled alarmingly.” Without questioning the broader truth that an unstable dollar rendered pegs to same more difficult to maintain in the late 90s, missed by Mallaby is that the Japanese yen crushed the dollar in the 1970s and 80s alongside surging Japanese exports into the U.S. Lost competitiveness? Let’s be serious. While in a sane world money would serve as a stable measure, the reality is that strong currencies beget investment in the very productivity enhancements that push down prices. Economic growth is once again the principal foe of rising prices. Beyond that, there’s no such thing as a “trade deficit” in the first place. Individuals trade as opposed to countries, and as such trade balances. To paraphrase Greenspan in his autobiography, “the world’s current account balance is zero.” The “deficits” in trade that alarm Mallaby merely signal massive, and economy-enhancing investment inflows (meaning an export of shares) that don’t count in a balance that no reasonable economic thinker would pay attention to in the first place. Back to the currency troubles of Thailand, South Korea and others in the late 90s, had the dollar been pegged to gold to Mallaby’s utter horror such that it was more stable, there’s likely less skepticism among traders about the ability of monetary authorities in countries like Thailand to maintain pegs to currencies like the dollar that were surging precisely because they lacked any kind of anchor.
- On p. 530, Mallaby promoted the fallacy popular among deep thinkers that U.S. economic strength springs from the struggles of other countries. As he put it about the early 90s, “From Europe to Asia, America’s postwar rivals had been thoroughly humbled. The Soviet Union had disintegrated. Japan was experiencing its first lost decade. China was as yet too poor to pose a threat. West Germany was resting, python style, having swallowed up its eastern neighbor.” Were he alive, Fredric Bastiat would have a lot of fun with the misguided author. Sorry, but trade is not war. In the real world producers produce in order to get what they don’t have by selling what they do. In the real world producers trade goods and services for goods and services. Based on what is basic, no economy is made better off by the impoverishment of others simply because no individual is made more prosperous if others are being murdered, enslaved, or are simply unproductive. Growth is greatly enhanced the more that specialized individuals are participating around the world. Is the U.S. stronger economically because neighbor Cuba has been a basket case for decades? If rich Switzerland were our southern neighbor as opposed to relatively impoverished Mexico, would the U.S. be growing more slowly? Based on Mallaby’s flawed analysis, the talented in San Francisco, New York and Boston are departing each city for Detroit and Flint in order to take advantage of the lack of competition in the two economically depressed locales. More realistically, the individuals who comprise any economy always migrate to where there’s lots of competition. That’s where the money is. Not according to the author, it seems.
- Mallaby also made sure throughout his accounting of Greenspan’s life to bash the supply-siders every chance he could. He did much the same in his analysis of Ayn Rand’s disciples. Greenspan’s greatness soared in the eyes of Mallaby the more that he “grew in office” as it were such that he dismissed the thinking of those who would generally prefer less government. So much could be written about this, but the main thing is that Mallaby mocked the “irresponsibility” of supply-siders with great regularity. Their error was rooted in their desire for stable money values, along with their allegedly “rosy” projections about government revenues that would rise as income tax rates fell. On this it should be said up front that income tax cuts in the 1920s, 60s, and 80s led to record revenues for the U.S. Treasury. In 1997, when President Clinton signed a capital gains tax cut into law, revenues similarly surged. But that’s not the point. Let’s assume Mallaby is correct despite easy to unearth statistics revealing him as incorrect. If so, great. Any truly wise supply-sider should cheer on tax cuts so large that revenues actually decline. If so, the certain tax – and barrier to supply - that is government spending would shrink. The federal government in the U.S. has continued to expand its muddy footprint in the real economy precisely because revenues into Treasury are so great that borrowing is easy for that same Treasury. To Mallaby it’s somehow irresponsible for politicians to seek tax cuts that actually reduce the ability of politicians to spend. Someday he might explain this in greater detail; specifically what about politicians consuming resources always and everywhere created in the private sector is good for freedom and for the economy. It would be fun to see Mallaby attempt to justify what is inimical to prosperity. Revenues are not the point, but in a book that routinely missed the point, allegedly falling revenues wrought by tax cuts were “irresponsible.” It seemingly has never occurred to Mallaby that it’s far more irresponsible for Republicans and Democrats to waste so much of what the productive create. Mallaby would do himself and his readers a big favor by consulting Bastiat’s “seen and unseen.”
- To read The Man Who Knew is to regularly lament the author’s reliance on credentialed economists full of numbers and equations, as opposed to non-economists like Henry Hazlitt. This showed up most glaringly toward the book’s end when, seeking answers as to why there was a global rush into housing (further evidence that the Fed wasn’t source of housing boom), Mallaby happened upon the absurd theory that a global “savings glut” was another principal driver of what was inimical to economic growth. Had Mallaby consulted Hazlitt’s essential Economics In One Lesson he would have better understood what is always true: there is never enough savings, and by extension, capital. Better yet, there will never be enough capital until every bit of human suffering and want is fulfilled. What this tells us explicitly, and logically, is that too much savings didn’t cause a crisis that was only a crisis insofar as the Bush administration and Bernanke Fed intervened in what was a healthy correction of too much housing consumption in 2008. The problem then wasn’t a glut of savings; rather declining currency values that were in decline thanks to a belief among economists (one shared by Mallaby) that money shouldn’t have an anchor rendered investment in productive ideas more of a fool’s errand. Why invest if any returns will come back in devalued money? So with the dollar in decline throughout the 2000s, so were global currencies similarly in decline such that tangible forms of existing wealth like housing became a safe harbor. Put simply, the problem in the 2000s, much like the 1970s, was that savings were channeled into consumption of existing wealth as opposed to investment in the creation of future wealth thanks to floating money that was rapidly losing value. Savings are never a problem.
Of course, the biggest problem in a book full of them is that Mallaby constantly elevated what is not terribly consequential. That the Fed is not very relevant shouldn’t surprise anyone in possession of a basic understanding of economics. Where central planning actually has an impact, the record of slow growth is very evident. Mallaby has written a book that contends on page after page that a man at the Fed planned the world's most vibrant economy. The sober retelling of supposedly brilliant central planning was almost comical except for the sad fact that economists and their enablers in journalism actually believe themselves and central banks capable of delivering prosperity. That the U.S. is the richest country in the world is a certain sign that the Fed’s role in the economy is well oversold. Not to Mallaby.
To the author who plainly fell hard for his subject (Mallaby notes in the book’s introduction sans irony that Greenspan asked for very few changes to the author’s manuscript), Greenspan was the “man who knew,” he “was the skeptic who understood that maestro worship can fuel bubbles.” Nonsense. What Mallaby deems “bubbles” is to the logical mind an investment surge. In the early 20th century with the dawn of the automobile, over 2,000 carmakers incorporated in the U.S. only for nearly every single one to fail. Nearly 100 years later internet firms came into being with great speed, only for most to fail. Bubbles? No, these were surges of information wrought by healthy failure. Can any reader imagine what a depressed place the U.S. and the world would be without the mis-named “bubbles” that the author has revealed such disdain for? What’s important here is that what Mallaby decries could not have been planned in the first place, and certainly couldn’t have been engineered from a central bank interacting with banks that, by their very commercial shape, can’t much provide the capital for what is intrepid, and that will most likely go bankrupt.
Greenspan is heroic in the eyes of Mallaby for having said in 1964 that the creation of the Fed was one of “the historic disasters in American history,” but the greater truth is that what interacts with banks that aren’t innovative, and that have been rapidly losing market share since 1913 is hardly a disaster. It’s been a disaster for banks simply because it’s propped up the weak to the regulatory detriment of the strong, but hardly a disaster. If the Fed had truly been a disaster, the U.S. would once again be a poor country and Mallaby wouldn’t have a subject for a book. Ending the Fed should be about ending what is an offense to common sense, not ending what is truly consequential.
Evidence supporting the above contention is revealed most clearly through the nonsensical, but oft-asserted falsehood that was the alleged “Greenspan put.” Of course, if Greenspan’s machinations had really succeeded in saving markets from themselves time after time, then it would be the case today that market indices would be a fraction of what they presently are. Markets once again gain their strength from weakness, from the weak being starved in favor of the strong. The alleged “Greenspan put” only worked when the underlying economy was already in fine shape as is, and as was the case in 1987 and 1998. If Greenspan really could have saved equity markets from dives as so many assume, then frenzied rate cutting in 2000 would have quickly revitalized what had been a roaring bull market. But it didn’t. The Fed has no clothes. Mallaby’s acknowledgment that the Maestro’s magic worked until it didn’t revealed the author sometimes getting close to the truth, only to revert to his mistaken belief that prosperity can be planned by a central banker tinkering with overnight lending targets among the antiquated. Let’s please be serious.
At the book’s end, Mallaby amazingly, but not surprisingly, concludes that Greenspan “managed to be right about most things.” Nonsense. We're talking about an economist so average and doltish (yet common among members of the discredited economics profession) as to proclaim that the answer to the 2008 financial crisis was for the federal government to buy up houses only to burn them (p. 659). The bigger truth about the “man who knew” emerged in Greenspan’s confirmation hearings for Fed Chairman that Mallaby thankfully wrote about. As Senator William Proxmire pointed out, the alleged seer in Greenspan had been President Ford’s Council of Economic Advisers chairman. Notable there is that the Council’s economic forecasts were not just wrong, but wrong in record fashion.
Sorry, but Greenspan wasn’t a seer. He's not even a great economist, but that's hardly a knock on him. An economy as large and dynamic as the one in the U.S. can hardly be forecast by philosopher kings. What made Greenspan great in an illusory sense was that in his first thirteen years at the Fed, economic policy was largely good. Taxes and regulation had come down, trade was freer, and the dollar was mostly stable. This is the stuff of booms. Always. Once policy changed for the worse in the 2000s, and in particular when the dollar was devalued under Bush ’43 a la the 1970s, economic growth slowed. This had nothing to do with the Fed. It was powerless to engineer economic growth in the 70s amid horrid policy, and so was it powerless in the 2000s.
Alan Greenspan’s alleged “greatness” was an accident of history. Sadly, a well-researched book missed all of this. Sebastian Mallaby has written an interesting book, one that many reviewers who haven't read it will laud as great, but a true accounting of it will point out that Mallaby’s weak understanding of basic economics caused him to ask all the wrong questions on the way to impressively subpar analysis. While he fell in love with his subject, the author’s rapture deprived him of a real understanding of that same subject, along with the economic times that gave him unwarranted prestige.
John Tamny is Political Economy editor at Forbes, editor of RealClearMarkets, a senior economic adviser to Toreador Research & Trading, and a senior fellow in Economics at Reason Foundation. He’s the author of the recently released book Who Needs the Fed? (Encounter Books), along with Popular Economics (Regnery, 2015).
