Fed Chairmen (and me)

Fed Chairmen (and me, burnt out by the 1970-78 chairman, Arthur F Burns). [Maybe just skip to this, unless you are interested in meandering, but I hope worthwhile comments, on Alan and others.]
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I think time is increasingly working against Alan Greenspan (AG). I mentioned in my TIAA-CREF comment a small mistake I think he made, a criticism rarely leveled at him, when he raised rates in the spring of 2000, just when it was becoming clear that the stock market bubble was over and that the economy was headed South, as they don’t say in Argentina.

Whether he should have let the rates stay as low as he did during the late 1990’s is questionable. AG argued correctly that there were no signs of inflation, but his memorable phrase, "irrational exuberance," indicated that as early as late 1996 he was aware of the dot-com and stock market bubble and at that point the bubble had barely bubbled. Not countering it some, by small but symbolic rate increases, he indirectly gave it his approval. Moreover, he refused to raise margin requirements from 50% to 100%, one way of helping to make it harder to speculate in stocks, and gave at the time what I would consider an incomprehensible, cockamamie reason.

Many have criticized him for lowering the key rate the Fed controls (the federal funds rate), after the stock market fell and the recession unfolded in 2001, to a mere one percent, all the while denying there was a housing bubble or even a housing problem to be concerned with.
Contrast AG with Robert Shiller, a noted Yale economist, who during the 90’s was warning those willing to open their eyes that there was an unsustainable stock market bubble. Shiller came out with a book that I believe became available the very month the bubble burst (or began its descent, since bubbles like balloons collapse totally while stock markets are more like slow leaks in a tire). It was written, of course, during the height of the bubble and Shiller had the wit to entitle his book, "Irrational Exuberance."

About 2005, in its quarterly (I think it’s quarterly) publication, the newsletter of TIAA-CREF printed a debate between a free-market type who said there was no housing bubble and that everything was jim-dandy, while Shiller said we had a real problem. Shiller had it right.There were many signs of potential financial danger for those who were not blinded by free market ideology. And Edward Gramlich, who died about a year ago, who was on the Fed’s Open Market Committee, the group that sets the Fed’s rates, strongly urged AG in 2002 (and also earlier) to use the Federal Reserve to monitor and create rules, regulations and leashes that would rein in the speculation. But AG said there was no need.

A respected conservative economist, and Reagan economist, Martin Feldstein, wrote not long ago in the Wall Street Journal that the Fed, most of all, was to blame for the mess we were in and while he didn’t mention Greenspan by name, clearly Greenspan was the object of his criticism. Increasingly, it looks like Greenspan will go down in history as a failure and let’s hope he takes Ayn Rand with him.

Paul Volcker, on the other hand, was made chairman of the Federal Reserve at a very difficult moment. The second oil crisis was unfolding, and inflation was in double digits, a shorthand for saying that it was more than 10%, and his non-descriptive predecessor hadn’t a clue, and I’m not even sure of his name—I just looked it up (G. William Miller). He lasted just under a year and a half).

In 1981, Volcker began raising rates to unheard of levels. Mortgage rates peaked above 17% and the prime rate, for a short while, rose above 20%. Not unnaturally, the economy was mowed down and unemployment reached double digits. We experienced the worst recession of the post-war period (WWII). [More, in another blog about current prospects]. Some have criticized Volcker for doing what he did and perhaps a case can be made that he pushed the rates higher and for a longer period than was needed (the consequence being that unemployment remained incredibly high for a long period).

But the real culprit was Ronald Reagan. In Economics 1 or 101, or whatever the intro economic course is numbered, it has been argued, ever since the triumph of Keynes’ General Theory in the mid-30’s (and to some extent, even before, without the theory) that deficits should be encouraged when the economy falls into depressions. Increase spending or cut taxes–does this prescription sound contemporary?! But inflations, by the same Keynesian logic, should be fought fiscally by tax increases and budget cutbacks (and monetarily by high interest rates).

But there we were, in 1981, with double digit inflation, and Reagan was pushing through an enormous tax cut which (along with military increases) had the potential to have us looking at triple digit inflation. It could even have turned us into a bona fide Banana Republic. What else could the Fed do? Volcker bit the bullet, raising rates sharply, and I’m not unsympathetic.

William McChesney Martin was chairman from 1951 until Arthur F Burns took over in 1970. I suppose he didn’t do terribly, but frankly, the only thing I remember is what he is most famous for, at this point, his quotation: It is the job of the Federal Reserve "to take away the punch bowl just as the party gets going."

But it’s Arthur F Burns I really want to write about. There were two Arthur Burns teaching at Columbia’s graduate program in economics when I arrived. The other was Arthur R. Burns. Arthur F Burns was distinguished by students from Arthur R Burns by the F instead of the R. And before your dirty minds betray you, the F stood for fluctuations, since he taught a course on the business cycle. He had just returned to Columbia University after being Eisenhower’s chairman of the Council of Economic Advisers, which in some administrations carries weight as well as prestige. In his case, I’m not sure.

He was known for being an anti-Keynesian, at a time when Keynes’s ideas had almost universally triumphed. (He was later appointed to head the Federal Reserve by Richard Nixon in 1970, who had remarked at about that time, "We are all Keynesians now," or something like that.)

His main criticism was not without merit and ironically was picked up by Bill Clinton of all people. Burns argued that running a deficit (by spending increases or tax cuts) to get out of a recession would cause the Federal Government to borrow more (obviously). And the result of the Federal Government doing this would cause interest rates to go up (as loaners have to be induced to loan to the US government rather than do other things with their money). Higher interest rates would then lead businesses to reduce their borrowing. So, in effect the increased spending from government expenditures or tax cuts would be offset by decreased business spending. (I don’t think he made a very convincing case it would be a wash.)

[Clinton insert: Clinton who campaigned in 1992 on getting the economy moving again, and argued in favor of tax cuts and spending increases—standard Keynesianism—changed course after the election, primarily I believe under the influence of Robert Rubin, a Wall Streeter, who argued that lowering the deficit would lower interest rates and get businesses to invest. So Clinton raised taxes and Republicans voted in both the Senate and House 100% against the tax increase, which in the Senate was decided by the vote of Al Gore and in the House passed 218 to 216.

Most Republican leaders, then apparently "liberal" Keynesians!, at least for the moment, predicted recession and worse. Evaluation: the 1993-95 period was a continuation of the slow recovery from the 1st Bush recession of 1990-91, but then there was a big pick up and in the late 1990’s growth was great enough to bring unemployment down to 4%, maybe a slight bit below, enough to make labor scarce enough that the average Joe Six Pack, to use the language of our friend Sarah, (or Joe the plumber, to use the language of her running mate) actually made real gains in income.

I think the original plan would have brought a degree of prosperity earlier, and would not have reduced significantly business investment, but might have had a greater inflationary impact than the low level that actually existed. In turn, greater inflation might have led AG to increase interest rates. And that might have meant a smaller stock market bubble. Joe Six Pack would not have done as well in the 90’s but might have done a little better in this decade. Maybe. ]

I took Burns’ course my first year, 1957, and what I remember most is that all he ever talked about was the need to stop inflation. Over and over. He wrote at that time a small book, about 90 pages or so, entitled "Prosperity Without Inflation." Neither the book nor verbal expression of it in class was very convincing, at least to me. Nor I believe did it ever have much of an impact on the public or on other economists.

But later on, in 1960 and perhaps 1962, I had two one-on-one encounters with Arthur Fluctuations Burns, each lasting about an hour. The first was my oral with him in the field of Business Cycles.

[Insert: At a later point I had an oral with four teachers in four disciplines, one of which included micro theory and was with William Vickrey, who was later to win the Nobel prize. After winning it, Vickrey said he would use his prestige to try to get America’s unemployment rate down to the level that existed then in much of Western Europe—2 to 3 %--instead of the 5 or 6 % that existed here, even during "good" times.

But then, tragically, he dropped dead two days later in his car just beyond the George Washington bridge on the Henry Hudson Parkway, driving to Boston. Too bad. He was a decent and committed pacifist who refused to serve in the army during World War II.

In passing, I had to take my orals again, since it took me so long to finish my dissertation and in cases like mine a retake in micro-theory was necessary. I studied like Hell, dropping virtually everything–my work on The Great Society Reader, my work as acting chairman of the Socialist Scholars Conference, my teaching--to devote myself to "Micro-economics" by William Vickrey. He asked a trick question or two but somehow I got through it, with his comment being "well, it seems you haven’t forgotten everything!!"]

At my Burns oral, he asked which of the three recessions (at that time) was fiscally handled the worst. I stupidly said the 1953-54 recession, since government’s response to the recession was to cut back military spending from $65 billion to $45 billion, since the Korean War had ended. Burns said, in response to me, and in a tone that indicated that he was personally offended, "I was the architect of that policy." Even a lunkhead like me knew immediately how stupid and foolish I had been.

He followed this up with: "Did you want us to go out and start another war?"Now it happens that at that time I was under the influence of I.F. Stone, who had written a book entitled, "The Hidden History of the Korean War." And Stone [Izzy, as he was known to friends and though I hardly was ever a friend, I later met him at Fire Island where he had a house, visited him at his house, had lunch with him at an Ocean Beach "diner" and chatted with him on the beach] believed that the South had started the war. Now it may have been possible that some South Korean soldier crossed the 38th parallel, or that South Korean maniacs said provocative things—Syngman Rhee, the South Korean leader, was a tyrant, after all—but clearly the ease by which the North swept into the South and everything else we have learned in the years since makes it clear the North started the war.

I didn’t say what immediately crossed my mind, when Burns asked whether I wanted us to go out and start another war–"well you had no trouble starting that one." I guess I pulled myself together and talked more intelligently about the 48-49 recession and the more serious 57-58 recession, since Burns passed me, giving me my first leg on the road to the Ph D.

For my economic history seminar, I wrote a paper entitled "The Economic Philosophy of the Eisenhower Administration." Not exactly history, since it was written while Eisenhower was still president. But Carter Goodrich, my economic history teacher, liked it. I think he even liked it a lot. So, after all the requirements were passed, and I was teaching at Polytechnic Institute of Brooklyn (now Polytechnic Institute of New York University, since very recently it has more or less been incorporated into NYU), I turned to what I was going to do a dissertation on.

But Goodrich had retired from Columbia and had taken a job somewhere in Pennsylvania—Penn State, I believe. I wasn’t going to chase after him. So I thought I’d see if Burns would sponsor a dissertation, expanding and developing what I had written on Eisenhower, since he was the Eisenhower expert.

Sometimes in life one wonders if dumbness is inherited or caught like the measles. If there was anyone unsuitable for sponsoring a dissertation (at least for someone of my temperament, politics, abilities and add to this list another twenty nouns), it was Arthur F. Burns. I remember—at least I think I remember this—that the interview was in his office at the National Bureau of Economic Research, a fancy group that today is responsible for deciding when a recession begins and ends, usually doing this long after anyone but economists care.

I also remember that within minutes I knew that having someone like Burns being my dissertation adviser would mean it would take twenty years to finish and during that period I would also have to put up with his egotism and pomposity. Needless to say, I dropped the proposal, found another adviser, who, incidentally, was a peach and got my dissertation accepted in the spring or summer of 1967, months after the second oral with Vickrey.

Burns went on to be chairman of the Federal Reserve, appointed by Nixon in 1970, and Professor Anti-Inflation immediately caved in to political pressure and eased the fight against inflation because Nixon feared that a real fight against inflation would cause such high unemployment that he would never be reelected in 1972—not knowing, of course, that his opponent in 72 would be George McGovern, someone I think we might call a political patsy and one surrounded by lefties of the type that knew Bill Ayres. I didn’t know Ayres but I knew other Weathermen. But even at the time, in the heat of the Vietnam War protest movement, I wasn’t a Weatherman, not because I was too scared but because I thought then as now that they went too far (and were, in addition, arrogant know-it-alls).

Nixon was able to avoid having inflation be used against him politically by instituting a wage-price freeze, in the middle of August, 1971, followed by wage-price controls in varying degrees for the next three years. (Probably, not a single economist on the Nixon staff, who had to enforce these controls, believed in them.)

But if Burns had not eased the fight against inflation, and unemployment had risen, and someone more "electable" than McGovern were nominated by the Democrats, we would have missed the enjoyment of Watergate, not to mention the movie with Redford and Hoffman.