End of the Greenspan Era

In the American political landscape, where eras usually last no longer than eight years, the equivalent of a visit by Haley’s comet is about to occur. For only the fourteenth time in history, a new chairman will assume the helm of the Federal Reserve.

In January 2006, the revered but also controversial Alan Greenspan will retire after nearly 19 years with the Fed. Despite the fact that President Bush has already appointed his likely successor, Ben Bernanke, it is unlikely that anyone will truly be able to fill Greenspan’s shoes for years to come.

Although history will debate whether Greenspan was the greatest Fed chairman ever, it is undeniable that he rose from a little-known economist to one of most powerful men in the financial world. His name has become a household word — even among Americans who have little understanding of what a Fed chairman does.

Understanding how and why the Fed chairman is such an important figure, and why Greenspan was so famous in the role, may lead to a greater understanding of the workings of the U.S. economy.

Advisor to Presidents

Prior to his appointment to the Fed, Greenspan already had a notable career in Washington. He served as chairman of President Ford’s Council of Economic Advisers and headed President Reagan’s bipartisan National Commission on Social Security Reform. Greenspan was appointed by Reagan to an unexpired term on the Federal Reserve Board of Governors on August 11, 1987, and reappointed by President Clinton to a full term on February 1, 1992.¹

Members of the Federal Reserve Board of Governors are limited to a single 14-year term, with one exception. A member who is appointed to fulfill the unexpired portion of a term may be reappointed for a full term. Greenspan’s second 14-year term expires on January 31, 2006.

The chairman of the Board of Governors is appointed by the president to a four-year term. In 2004, President Bush appointed Greenspan to his fifth and final term as board chairman.

Policymaker

The Fed chairman’s power is on full display at meetings of the Federal Open Market Committee. The committee is composed of the seven members of the Federal Reserve Board and five of the 12 Federal Reserve Bank presidents. They meet eight times a year and review the current economic environment to determine whether an adjustment in short-term interest rates is required.

If the Fed believes inflation poses a threat, the committee may decide to increase short-term interest rates to slow the growth of the economy. If the Fed believes inflation is under control and economic growth is lacking, it may reduce short-term rates. Between January 2001 and June 2003, the Federal Reserve slashed interest-rate targets 14 times to help the economy pull out of a recession.² Then beginning in June 2004, the Fed began a long campaign of numerous small rate increases to help ensure that inflation — a byproduct of economic growth — remained under control while the economy expanded.

New Guy Makes Good

Greenspan is credited with steering the economy through two recessions and overseeing a period of unprecedented economic prosperity. But perhaps his most memorable moment came just two months after assuming office. On October 19, 1987, the stock market experienced its worst-ever single-day loss. At the time, the Fed’s traditionally cautious monetary policy had made it relatively slow to make changes. But following the crash, Greenspan was praised for acting quickly to help stabilize the financial markets, providing an early contribution to his reputation as a skilled policymaker.

Greenspan has also been praised for his calm reassurances to the markets when the tech bubble burst in 2000, when terrorists struck the nation’s financial capital in 2001, and during numerous other smaller crises during his tenure.

Other notable Greenspan moments occurred during his frequent appearances before Congress, where he addressed elected officials in his trademark round glasses, fielding their questions with an unflappable demeanor. Here we heard him use such memorable phrases as “irrational exuberance” to describe the stock market’s rapid ascent in the late 1990s and “froth” to refer to some troubling yet relatively minor trends in the housing market.

One reason for Greenspan’s vaunted status is the current condition of the U.S. economy. When Greenspan, who turns 80 in 2006, relinquishes his role to his successor, he will be handing over an economy that is in prime condition. In particular, the Fed’s arch nemesis, inflation, is at manageable levels — and when you subtract energy costs, inflation is low by historical standards.

Of course, someone as powerful as Greenspan is bound to have critics — and his are legion. He’s been criticized for supporting tax cuts; for waiting too long to raise interest rates during the bull market of the late 1990s; for leaving rates too high in 2000 after the tech bubble had clearly burst; for waiting too long to raise rates in the most recent economic cycle; for raising rates too high and for cutting them too low — the list is long.

Greenspan leaves behind a long, complex career that will no doubt be deconstructed and debated by economic students and political science majors for decades to come. But we can also expect that his replacement may someday eclipse Greenspan’s legacy, because Federal Reserve chairmen have rarely maintained a low profile for very long.

1, 2) Federal Reserve, 2005

Send email to webmaster@annuityadvantage.com with questions or comments about this web site.
Copyright © 2001-2009 AnnuityAdvantage.com