Alan Greenspan Tells Us What We Should Be Worrying About

The former Fed chair spoke to CNN's Jake Tapper about markets, bank reserves, and Janet Yellen.

 

Alan Greenspan has gotten that bubble religion. He used to think that "bubbles are generally perceptible only after the fact." But now he says that, actually, "bubble are easy to spot." And that "we all knew there was a bubble" during the housing boom.

So, with notably rare exceptions, irrational exuberance is pretty obvious?

But what about the next bubble? What should the Fed be worrying about now? Well, Greenspan thinks it's not so much frothy markets as frothy bank reserves that should concern policymakers. See, the Fed's bond-buying the past five years has left banks with excess reserves that they could loan out, but don't, because people just don't want to borrow. But what if they did? Then inflation might rise from its currently anemic level up above the Fed's 2 percent target. Of course, that assumes the Fed would let that happen. It wouldn't. The Fed has plenty of tools, all with appropriately boring names, it could use to suck up this money if necessary. And Greenspan doesn't doubt that Janet Yellen, who he calls an "extraordinarily competent economist," would in fact use them in time (assuming she's confirmed as Fed Chair).

Still, even a perfect exit could be a rocky one. As Greenspan pointed out, long-term interest rates spiked when the Fed just suggested it might begin reducing its bond-buying back in May. And spiking rates can have all kinds of unpredictable consequences. Indeed, there was a wave of bankruptcies back in 1994 when Greenspan's Fed hiked rates further and faster than markets anticipated. Investors who had borrowed a lot of money betting on low rates went bust overnight. So even if the Fed keeps inflation in check, which seems likely, there could be plenty of financial turbulence as the Fed goes back to normal.

It's why Greenspan is so happy to have Yellen (almost certainly) leading the Fed. Not only does she have the requisite brainpower and experience, but he thinks she has certain skills that women are more likely to have than men that will help her in the job. He wouldn't elaborate on what those skills might be.

Seems appropriate for someone who once said: "If I turn out to be particularly clear, you've probably misunderstood what I said."

Presented by

Matthew O'Brien

Matthew O'Brien is a former senior associate editor at The Atlantic.

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