ENGLEWOOD CLIFFS, N.J., September 17, 2007-The Federal Reserve tried to curb the explosive growth in the U.S. housing sector under Alan Greenspan's tenure, but each time it tried to raise long-term interest rates it failed, the former Fed chief told CNBC's Senior Economics Reporter Steve Liesman in an interview.
Liesman also spoke with Greenspan about the possibility of a recession, slower growth and higher inflation, and the Fed being too tight.
Following are excerpts of Liesman's interview, which will air throughout the day today, Monday, September 17 on CNBC, First in Business Worldwide:
I think the-- the risks are probably, obviously, larger now than back then. But not a great deal.
In other words, most forecasts who were experienced-- modelers and forecasters and the most knowledgeable-- have not yet come to the point of forecasting a recession. They invariably have lower rates of growth. And when you get down to the low rates of growth that some of them have, it's an interesting question of whether they're stable.
Are you concerned we're at or near stall speed right now?
We're not there yet. No. But-- we very likely could get there.
How is the current situation similar to and different from what happened in '87 and '98?
All three are dominated by-- unchangeable innate characteristic of human nature, fear. And people behave in a very predictable way when caught in the grip of fear. Because whenever you're frightened or uncertain-- a human tendency, which is never capable of being changed or le-- improved by learned in any sense, is to disengage.
Because if you're crossing a street and you don't know if cars are coming or not, you stop. And when you're in the market, when you're not quite certain what is going on, you disengage from the market.
In both those cases, Mr. Chairman, you acted very aggressively. The Fed under-- under your stewardship acted very aggressively. It seems to me like-- I mean, do you think there's 50 (UNINTEL) at 25?
Well-- you know, people are comparing the way the Fed behaved when I was Chairman, in the way when-- currently when Ben Bernanke's chairman, As though they're the same. They're not. I was in the period in which there was this-- we were in the grips of significant long-term disinflation. We did not have to be concerned, terribly much, about inflation.
And, as a result, we had the ability and flexibility if you so chose, to move down without worrying about the-- the significant increases that may occur. It's different now. And it's very clear that the trade offs on inflation and growth are altered. And the Fed has to be far more careful about inflation now, than when I was chairman.
ON SLOWER GROWTH AND HIGHER INFLATION
.... we are still, apparently, in the disinflationary mode. Although there are now signs it's beginning to turn. And, eventually, we're going to find that the excess savings which has pressed down the real rate, will start to dissipate....Which means that this inflation will ease, and underlying inflationary pressures, which have been suppressed and dormant for well over a decade, will emerge. And I think we're beginning to see it.
You can see it in labor costs here in the States. You can see it popping up, not in an aggressive way, but just the early stages of changes. China's export prices have turned, in short, the benevolence of-- the benevolent part of this-- big expense. And I think it's coming to an end.
What do you say will happen to the interest rate on the ten year?
Well, as a consequence of this-- I'm saying that inflationary pressures will build up....And when I put the numbers together-- we get-- as I say, somewhere in the area of eight percent or higher.
ON THE FED BEING TOO TIGHT
...what we do know is that inflation in a (UNINTEL) money economy has got to be higher than in a gold standard economy. The one to two percent is slightly above the gold standard. If history is any guide-- it's just gonna not be possible to maintain this once we lose the crutch of the disinflationary process.
And once you have inflationary pressures moving up, as I say in the book, unless the Fed is not encumbered in holding it down, 'cause the Fed does have the capability of suppressing the type of inflation process which is going on. The difficulty is, it's gonna-- it will require very significantly higher interest rates. And-- as-- when Paul Volker successfully-- suppressed inflation in the early 1980s, he was vilified.
GREENSPAN: in 2004, we tried to raise the mortgage rates by moving the ten-year Treasury note up, and we failed.
Because-- every time we raise short-term rates historically, long-term rates moved with us. It wasn't only-- it was only at the tail end of a-- of a-- tightening mode that we would find long-term rates went down. We moved up rates. Ten year notes were flat to (UNINTEL). We tried again in 2005. Same thing. Had we done it in 2002, I have no doubt that we would have failed, in short.
We had no control, that I could see, which would have made any difference in the extent of the bubble that was emerging. And we concluded, as we did with respect to the stock market bubble in the 1990s, that-- which then, as I pointed out previously, every time we tried to tighten-- even though that was-- we weren't trying to knock the stock market down. We were reacting to inflationary pressures.
I'm fully aware of the fact that everyone thinks that the Federal Reserve, back when I was chairman, inflated the economy. Well, we didn't. What we were responding to was global forces which every central bank was responding to. We had a continual, gradual decline in the rate of inflation. And, indeed, we were acutely aware that there are downsides to that, as well as upsides.
The upsides were-- was world economic growth of unprecedented order. Hundreds of millions of people coming out of extreme poverty. And there are all sorts of pluses to it. But there are down sides. And the down sides are what we're experiencing in bubbles. Because one of the inevitable outcomes of when you get a sharp decline in real long-term interest rates, is that (UNINTEL) ratios rise. Real estate capitalization ratios fall.
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