Greenspan: I Was 'Partially' Wrong On Credit Crisis

Former Federal Reserve Chairman Alan Greenspan told Congress on Thursday he is "shocked" at the breakdown in U.S. credit markets and said he was "partially" wrong to resist regulation of some securities.

Lauren Victoria Burke / AP Alan Greenspan

Despite concerns he had in 2005 that risks were being underestimated by investors, "this crisis, however, has turned out to be much broader than anything I could have imagined," Greenspan said to the House of Representatives Committee on Oversight and Government Reform.

"Those of us who have looked to the self-interest of lending institutions to protect shareholder's equity (myself especially) are in a state of shocked disbelief," said Greenspan, who stepped down from the Fed in 2006.

Banks and other financial institutions need public support, such as the recently approved $700 billion bailout package, to avoid a serious reduction in credit, he said.

While Greenspan was once hailed as one of the most accomplished central bankers in U.S. history, the low interest rates during his final Fed years have been blamed for fueling the housing bubble and eventual crash that touched off the current financial crisis.

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The former Fed chair said stabilization of U.S. housing markets—a necessary precondition for the economy to heal—is "many months in the future." He said he expected the unemployment rate to jump.

At the heart of the breakdown of credit markets was the securitization system that stimulated appetite for loans made to borrowers with spotty credit histories, Greenspan said.

"Without the excess demand from securitizers, subprime mortgage originations (undeniably the original source of crisis) would have been far smaller and defaults accordingly far fewer," he said.

"The consequent surge in global demand for U.S. subprime securities by banks, hedge and pension funds supported by unrealistically positive rating designations by credit agencies was, in my judgment, the core of the problem," he added.

Former Treasury Secretary John Snow agreed that risk had been under-priced on a global basis.

He said risks in mortgage markets were masked in part by accounting irregularities at Fannie Mae and Freddie Mac.

"A critical lack of transparency in secondary markets left policy-makers and regulators unable to discern the true nature and extent of the systemic risk that continued to build," he told the panel.

Greenspan urged that securitizers be required to retain "a meaningful part" of securities they issued. He said that regulatory reform will be necessary in the areas of fraud, settlement, and securitization to reestablish financial stability.

He also conceded he was "partially wrong" about his belief that certain derivatives, such as credit default swaps, did not need to be regulated.

Lawmakers, with one eye on a general election Nov. 4, lined up on both ideological sides of the debate.

Democrats assailed gaps in rules and oversight while Republicans faulted government-sponsored mortgage finance enterprises Fannie Mae and Freddie Mac for contributing to credit market strains.

"For too long, the prevailing attitude in Washington has been that the market always knows best," Committee Chairman Henry Waxman, a California Democrat said. "The Federal Reserve had the authority to stop the irresponsible lending practices...But its long-time chairman, Alan Greenspan, rejected pleas that he intervene."

Republicans countered that regulators were unable to avert disaster because of the extended network of financial oversight agencies and lawmakers' failure to rein in the powerful mortgage agencies, which are congressionally chartered.

"It wasn't deregulation that allowed this crisis," Rep. Tom Davis, a Virginia Republican said. "It was the mish-mash of regulations and regulators, each with too narrow a view of increasingly integrated national and global markets."

Republicans circulated an Oct. 20 letter asking for a government investigation of alleged fraud and mismanagement at Fannie Mae and Freddie Mac, which the government took over in September to restore to financial health.

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