Hedgie mogul Paulson teases out hawkish Greenspan

February 18, 2011

By Richard Beales
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

Alan Greenspan has turned hawkish. The former Federal Reserve chairman, quizzed by John Paulson this week in a packed New York University hall now bearing the billionaire hedge fund manager’s name, admitted to gloom over President Barack Obama’s latest budget and concern that the government may be strangling the economy. It’s a pity he didn’t worry about the opposite effect while running the Fed.

The $36 billion Paulson & Co — famously a huge winner on bets that the American mortgage market would implode — hired Greenspan as an adviser several years ago. And the fund manager laudably handed NYU’s Stern School of Business $20 million to endow chairs named after Greenspan and himself. That’s also how Paulson’s name came to be on the auditorium. So the session was never going to be antagonistic.

But it did emerge that Greenspan, whose academic credentials include no fewer than four degrees from NYU, has concluded that part of the reason for the current tepid job creation may be that government deficits are crowding out private sector investment.

He also reckons a smaller but functional U.S. mortgage market could exist just fine with no or only marginal government involvement — an intensifying debate in Washington as the future of Fannie Mae and Freddie Mac finally comes into focus. And he thinks it is time for the government to “calm down” and stop doing things, letting the economy find steady direction on its own.

To be fair, all this is broadly consistent with Greenspan’s professed small government, market forces-oriented philosophy. Where that begins to break down is with his belief that early crisis interventions by the Treasury and the Fed were “essential” to stabilizing markets. Faced with alarming amounts of sand in the financial gears, in other words, a government firehose and ample central bank lubrication were justified.

But the Greenspan Fed didn’t think that an economic juggernaut that fairly obviously lacked brakes demanded action. It’s hard to reconcile the two views. By maintaining low interest rates as bubbles inflated in housing and elsewhere, the Fed surely contributed to the subsequent collapse — and the massive gains that catapulted Paulson into the hedge fund big leagues. Come to think of it, maybe Greenspan’s name should be on the auditorium.

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We generally underestimate the pressure from banks the Fed Chairman is under during his tenure.

We only see when the chairman is answerable to the body representing the government. But there is hardly any doubt in my mind that the pressure from the banks has probably the bigger influence on the Fed’s policies.

This might explain Greenspan sudden change of attitude.

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