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September 1997

Back From The Brink: The Greenspan Years

By Steven K. Beckner
John Wiley & Sons,
452 pages

Reviewed by Kevin L. Kliesen
Economist, Federal Reserve Bank of St. Louis

The formulation of monetary policy has been compared to making sausage—what counts is the final product, not how it is made or, heaven forbid, what ingredients are used. This characterization, while perhaps unfair, probably owes to the star chamber-like qualities that people attach to the Federal Open Market Committee (FOMC), the Fed's main policy-making arm.

Couched at the center of this stage, of course, is the chairman. Whether testifying before Congress, or giving a speech to business groups, a key aspect of the chairman's job is to communicate the central bank's goals and objectives to the public. Often, this is done in a convoluted manner. Chairman Alan Greenspan himself has made light of this unique ability to engage in "Fed-speak": "Since I've become a central banker I've learned to mumble with great incoherence. If I seem unduly clear to you, you must have misunderstood what I said." To many economists, however, Federal Reserve officials who hem and haw just enough to introduce a shadow of doubt end up doing just that, thereby introducing an element of uncertainty that may make financial markets less sure about the central bank's commitment to its primary objective—maintaining the dollar's purchasing power over time (price stability).

Journalist Steven Beckner, who has covered monetary policy since the beginning of the Greenspan years, has written a useful book that goes beyond the regular elliptical utterances of the Fed chairman. Although his praise of the chairman is a bit effusive in spots, and the economic analysis is somewhat dated—for example, portions of the book cry out for someone with better knowledge of recent advances in macroeconomic theory—it nevertheless helps to demystify what goes on at FOMC meetings.

This book should be viewed as two separate entities. The first part encompasses the period from Chairman Greenspan's appointment in August 1987 to the end of 1991. This part of the book is the most useful because it draws upon available FOMC transcripts. Regrettably, without the help of FOMC transcripts, the second part of the book, which probes the discussion of policy-making during the 1992-96 period, provides few new insights into the policy-making process.

For this reason, the existence of FOMC transcripts represents a potential wealth of information. But would it actually help matters to know more than we already do? Recent advances in monetary economics suggest that monetary policy will be more effective, and thus credible, if it is transparent rather than opaque. While most economists believe that markets work better with full information than with little or none, the following discussion of the exchange between Chairman Greenspan and former Boston Fed President Dick Syron at the November 1990 FOMC meeting suggests that the value of that full information might be less than many expect:

The district-by-district economic condition reports sounded bleaker than ever. Syron called the banking sector in his region "truly dismal. Some asset markets just literally have ceased to exist, and this is not just in the real estate area. I'm talking about loans to small businesses and that sort of thing." With people and firms unable to pay electrical bills, Syron reported there had been an absolute decline in electrical hookups, correlated with "a significant jump in bankruptcies." "It's shocking!" replied Greenspan. "Well, I want to get a charge out of it," Syron came back. "We try to stay plugged in!" (p. 206)

Admittedly, this "gallows humor," as Beckner describes it, is probably not a fair representation of the policy discussion that usually comprises each FOMC meeting. However, as Beckner unwittingly exposes, it is representative of two potentially serious flaws inherent within the existing process. First, policy discussions are entirely too short-sighted in nature, with an inordinate amount of emphasis placed on month-to-month changes in economic series that often revise substantially. Second, regional biases can sometimes introduce unnecessary distortions that lead to sub-optimal policy prescriptions.

Regarding the latter criticism, the backdrop that so energized President Syron was the so-called credit crunch. As Beckner shows in painstaking detail, this unwinding of what amounted to a tax-induced speculative real estate boom eventually came to dominate the policy process for about two years. Probably needlessly, as it turns out, because a group of distinguished academic economists concluded that the credit crunch was no more than a bit player in causing the 1990-91 recession. [See "What Caused the Last Recession," AEA Papers and Proceedings (May 1993), pp. 271-286.]

To be fair, it is probably not a reach to conclude that most distortions to the monetary policy process during Chairman Greenspan's tenure stem not from any misperception of economic events by Federal Reserve officials, but rather from the virtually incessant machinations of politicians attempting to influence policy in one way or another. Whether through pressure to intervene in currency markets to drive the value of the dollar lower--markets had to be kept "orderly," Beckner quotes Assistant Treasury Secretary for International Affairs David Mulford as saying—or an explicit understanding to ease policy after the 1990 budget deal, this book should put to rest the idealized notion that FOMC deliberations are free of political pressure. Shutting down this political "pressure valve," as Chairman Greenspan calls it, while remaining faithful to the Fed's true long-run task, is a full-time job that requires a steady hand.

By and large, Chairman Greenspan has succeeded in this endeavor—after all, inflation has stayed relatively low and stable for the past six years or so. But is this success the product of a consistent approach to monetary policy? If consistency is defined as accepting at face value the policy recommendations of a macroeconometric model that posits an exploitable Phillips-curve trade-off between inflation and output in the short run, then the answer is probably no (thank goodness). By the same token, if consistency is defined as "a countercyclical response which is consistent with, or can be reconciled with, the FOMC's long-run goal and which, furthermore, is seen as consistent by the public" (emphasis added), as Minneapolis Federal Reserve Bank President Gary Stern put it the Bank's 1995 annual report, then maybe. [See "Formulating a Consistent Approach to Monetary Policy," Federal Reserve Bank of Minneapolis 1995 Annual Report.]

Clearly, Greenspan believes in the value of countercyclical responses to adverse shocks. Policy easings that were undertaken the day of weak employment reports several times between December 1990 and September 1992, or the preemptive tightening of policy between February 1994 and February 1995, testify to that. What is unclear, however, is whether he has a consistent approach to policy that marries his love of short-term policy responses, to his (just as devoted) long-run goal of price stability. If such an approach exists, it is not readily found among the entrails of this book. Perhaps it is too easy to quibble with success.

Is Alan Greenspan the best Federal Reserve chairman we have ever had? Professor Alan Meltzer of Carnegie-Mellon University thinks so—at least that is what he is quoted as saying on the cover jacket. Although that is faint praise coming from a perpetual critic of Federal Reserve policy, the difficulty of arguing with that assessment should not be taken lightly. The unanswered question is whether Chairman Greenspan's success stems from an irrepressible desire to achieve sustained low inflation, or some combination of luck within the context of a flawed approach to policy.

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