How do we get out of this alive?

[More from the 2005 Jackson Hole Fed confab - originally published August 29th, 2005.]

You can get a pretty good feel for the general mood at the Kansas City Fed's annual central bank symposium held over the weekend in Jackson Hole, Wyoming just by scanning the headlines of the articles that were written. Links to most of these appeared in yesterday’s post.

During a conference with a theme of "Greenspan's Legacy", many headlines contained phrases such as "problems await", "economic risks", "if the bubble bursts", “uncharted waters”, and “market trauma” among others. This seems to indicate a real sense of unease on the part of many writers filing stories related to this event.

Looking through these articles, and counting Paul Krugman’s late entry on Sunday, there were a total of four headlines which included the word “bubble” - one from the L.A. Times, two from Bloomberg, and Krugman’s editorial which appears in today’s N.Y. Times.

In the fifty articles in yesterday’s list from major news reporting organizations (i.e., everything from the group of Reuters stories at the top, down to the one from Investors Business Daily) there were 128 instances of the word “bubble”. That’s about two-and-a-half instances per story, with the heaviest concentration in the N.Y. Times, L.A. Times, and Bloomberg stories. Interesting. A quick scan for the word “burst”, revealed 18 instances. Also interesting.

Like the conference itself, many of the stories focused on the legacy of Alan Greenspan.

All of these stories included words of praise for the sustained economic growth and low inflation experienced during this time, but they also included unanswered questions about what will become of the housing bubble and how it will affect the rest of the economy. Most telling of these legacy articles is the one by long-time Fed watcher Greg Robb of CBS MarketWatch where he chose to end his piece with a quote which is the title of this post (see excerpt below).

We are working on our own story about the Greenspan legacy - more on that later this week. In the meantime, here are some selected excerpts from the reporting over the weekend:

Reuters - Glenn Somerville
Fed eyes asset-price rises closely-Greenspan

"Such an increase in market value is too often viewed by market participants as structural and permanent," said the 79-year-old, who is due to step down as the U.S. central bank's chairman at the end of January.

"To some extent, those higher values may be reflecting the increased flexibility and resilience of our economy," he said.

But he added "newly abundant liquidity can readily disappear" if investors grow wary for some reason and demand a higher risk premium for lending.

New York Times - Edmund L. Andrews
Greenspan Says Housing Boom Is Nearly Over

He also acknowledged more strongly than before that the housing boom, which has been fueled in large part by the Fed's own decision to prop up the economy with low interest rates, is closely tied to the nation's soaring trade deficit and its record level of foreign indebtedness.

But Mr. Greenspan also seemed intent on defending his legacy against critics who say his policies contributed to the United States' imbalances, which could lead to higher interest rates and potentially wrenching declines in housing prices and consumer spending.

Los Angeles Times - Bill Sing
If 'Bubble' Bursts, Legacy of Greenspan May Deflate

But the final chapter of Greenspan's legacy might be based on how well the central bank manages what many experts say is a crisis looming on the horizon: a housing bubble.

Many experts say the nation's real estate market draws disturbing similarities to stocks in the late 1990s — a market driven to unsustainable price levels by what Greenspan famously called "irrational exuberance." They fear a similar ending: a sharp fall in prices that could bite the net worth of many Americans and trigger a recession.

And some experts say Greenspan deserves at least some of the blame for fostering housing market conditions that the Fed chairman himself has called "frothy." The Fed, they say, hasn't done enough to damp real estate speculation, while maintaining cheap credit for too long.

CBS MarketWatch - Greg Robb
The measure of the chairman

Many economists think Greenspan made a policy mistake by accommodating and even encouraging asset bubbles that developed in the stock market and later in the housing market. Greenspan has argued that the policymakers can't know it's a bubble until after it has burst and can only then react to it.
...
"Greenspan should weigh against asset markets in the good times -- just as he works to support them in the difficult times. He's been one-sided in his policies," said Zandi of Economy.com. Investors sense this and act on it, Zandi said.

In the current environment, the housing sector has been immune to the Fed rate hikes to date. Home prices have risen steadily and many consumers have been borrowing against this price appreciation. "The Fed has never said this borrowing is a mistake and that this is a problem," said Brusca of FAO Economics.

Many say the final assessment of Greenspan's tenure as Fed chairman will not be written until it is clear how the possible housing market bubble is resolved. Some economists said the Fed should "unleash the regulatory machinery" to rein in excesses in the mortgage and housing markets.

Economists are worried that low savings rate and the possibility that a sharp decline in housing prices could make the next economic downturn more severe.

"The question is, how do we get out of this alive?" said Robert Dederick, president of RGD Economics in Hinsdale, Ill.

At the moment, the only answer is that we'll have to do it without Greenspan.

Prudent Bear Credit Bubble Bulletin - Doug Noland
The Greenspan Era: Lessons to be Learned

No discussion of Greenspan’s possible legacy will stand the test of time without addressing the momentous financial sector developments nurtured under his watch. Ultimately, I expect that he will be judged most by the success or failure of the Financial Sphere he cultivated, sustained and endorsed. Curiously, I have yet to read or listen to any comments regarding the unprecedented buildup of debt under The Greenspan Regime. He has operated for too long as undisputed Master and Commander of what has evolved into today’s massive and unwieldy global pool of speculative finance. Disconcertingly, his impending exit will coincide with increasingly vulnerable U.S. Mortgage Finance and Credit Bubbles.