Greenspan's Deficits

By Daniel Eisenberg and Eric Roston

After being treated like royalty for presiding over the longest economic boom in the nation's history, Alan Greenspan, 79, might well have expected his final year as Chairman of the Federal Reserve to be one triumphant victory lap. Instead, the man known as Maestro may not even get a standing ovation. The economy is showing signs of slowing growth and oil-fueled inflation, a potentially dire duality. The Dow Jones industrial average, a daily vote on prospects, is filled with undecideds. The volatile Dow plunged early last week and then rallied for its biggest one-day gain in two years, only to retreat again at week's end. Far more certain are the critics who have begun maligning Greenspan's once unimpeachable record of low inflation, low unemployment and strong growth. In the view of that small but increasingly vocal group, the U.S.'s high consumer debt, low personal-savings rates, declining dollar and potential real estate bubble can all be laid at the feet of the Fed Chairman. And those ballooning budget deficits? They are partly the product of George W. Bush's 2001 tax cuts, which Greenspan all but endorsed.

It doesn't help that Greenspan is now caught in the partisan warfare over Social Security privatization and the budget deficit. His credibility is being challenged by the likes of Senate minority leader Harry Reid, who in March called him "one of the biggest political hacks we have here in Washington." Just last week, during a Senate Budget Committee hearing, Greenspan essentially apologized for providing what Senator Paul Sarbanes called "a green light" for the 2001 tax cuts. "If that is the way it was interpreted, I missed it," Greenspan said of his support. "I did not intend it that way."

Even for Greenspan, whose sense of the pulse of the economy is legendary, the current financial environment has to be a source of concern, if not confusion. Although a key index of leading economic indicators fell in March, unemployment claims also dropped, by the biggest number in more than three years. The core index of consumer prices suffered its largest jump in nearly three years, yet the wages of most workers are not keeping pace.

The conflicting signals all come at a time when the U.S. is depending more than ever on foreign money to sustain growth. For Greenspan and his colleagues at the Fed, which has been gradually raising interest rates over the past year, the quandary is whether to quicken the pace or take a break. "You don't know exactly when to stop," says economist Mark Zandi of Economy.com "If history is any guide, they can go too far."

Not long ago, of course, Greenspan was the one trusted oracle who Wall Street and Washington believed could steer through such choppy waters. After taking over from inflation slayer Paul Volcker in 1987, Greenspan greatly expanded the role and influence of the Fed Chairman, whose principal job is to oversee monetary policy. His economic mission creep included commenting on everything from tax cuts and the housing market to entitlement programs. In 1996 he warned investors of "irrational exuberance," only to turn around and exacerbate the stock market bubble, his critics allege, by becoming a cheerleader for the New Economy. Many Fed watchers believe that by injecting himself--usually at Congress's request--into issues outside his official domain, he could have set a dangerous precedent for his successor, who could be blamed for problems beyond the Fed's control. "If you get someone who is not as good as Greenspan, it can lead to attacks on the Fed," says Frederic Mishkin, an economics professor at Columbia Business School and a former research director at the New York City branch of the Federal Reserve.

The gloves are already off. Senator Hillary Clinton chastised Greenspan at a Senate hearing when he tried to square his support for the 2001 tax cuts with his current dire warnings about the budget deficits and unsustainable entitlement programs. "If confronted with the same evidence we had back then, I would recommend exactly what I recommended then," he said, referring to the rosy budget-surplus projections at the time. "It turns out we were all wrong."

Considering that many economists never believe such long-range forecasts, Greenspan's defense left many observers shaking their heads. His argument that he supported tax cuts only in general--not the Bush tax cuts--has also tarnished his credibility. "What the U.S. needs is a truly politically independent central banker," says Morgan Stanley chief economist Stephen Roach. "When Greenspan expresses his opinions on nonmonetary policy issues, whether he wants to admit it or not, he becomes identified as an advocate and it influences the decision making."

With his carefully cultivated image as a wonk, Greenspan has been heard to say that he is a prop in the long-running political theater that is Washington. But he is also clearly an actor--one of Washington's shrewdest power brokers. He plays politics just as he plays his favorite sport, tennis, in which he is known on occasion to switch his racquet from his right hand to his left in the middle of a point to avoid using his weaker backhand. So it was that during the 1990s the onetime adviser to Presidents Richard Nixon, Gerald Ford and Ronald Reagan joined the deficit hawks in Bill Clinton's Administration to support raising taxes, only to bless, however obliquely, President Bush's 2001 cuts in the wake of projected surpluses.

Ironically, much of Greenspan's success is attributed to his obsession with data and his uncanny ability to obfuscate. Known around Washington as Greenspeak, his signature style is marked by drawn-out, cryptic statements on the economy that leave listeners alternately impressed and befuddled. "His style of speaking reflects his style of thinking--careful, very nuanced, analytically driven and balanced," says a Fed official.

Any qualms about Greenspan are dwarfed by fears of what will happen in January when his term as a Fed governor expires. Most Fed watchers agree that Greenspan has done a superb job of shepherding the economy, especially since he has had to contend with two major stock-market corrections, assorted global financial crises, a rash of corporate scandals and 9/11. An economy's success is tied to confidence, and Greenspan has made believers out of marketmakers and policymakers.

Almost by definition, his successor and the economy over which he or she presides will start off at a disadvantage, especially if Greenspan fails to steady the rocky economy in the months ahead. Some Fed watchers are worried that the President might pluck from corporate America a CEO with little formal finance background to run the Fed, as he did with John Snow at Treasury. The most likely candidates, though, are Martin Feldstein, a Harvard professor and former head of President Reagan's Council of Economic Advisers (CEA); Glenn Hubbard, dean of Columbia Business School, who ran the CEA during much of Bush's first term; and Ben Bernanke, just nominated to be the new CEA chief.

Whoever gets the job obviously has a very tough act to follow, in more ways than one. "In the short term, he did wonders for the U.S. economy, but now we are saddled with the bill," says Ravi Batra, an economist at Southern Methodist University and author of a new polemic, Greenspan's Fraud: How Two Decades of His Policies Have Undermined the Global Economy. That's a harsh verdict. But if Alan Greenspan misses the universal acclaim he once enjoyed, he may have only himself to blame. It was Greenspan, after all, who famously warned about the perils of irrational exuberance.