Despite what Hollywood would have us believe, money does make the world go round. If power can be judged on the basis of who controls that money, then it is no wonder that Alan Greenspan, Chairman of the Federal Reserve Board, often is called the second most powerful man in America -- and, according to economists, sometimes the first.
However, despite the enormous amount of power Greenspan may wield over monetary policy making, critics often use him as a convenient scapegoat for current economic woes.
"The many problems recently affecting financial markets can hardly be blamed on the Fed nor could it have done very much to avert them," Economics Prof. John Whitaker said. "Its tools are quite limited and the causes of the problems mainly lie elsewhere than in monetary policy failures."
"Both the people who hailed Greenspan as a genius and those who now blame him for the state of the economy and the stock market do not understand the limitations of monetary policy," Economics Prof. Craig Burnside said. "There are no credible economic theories in which monetary policy can influence the real side of the economy in a systematic way over a long period of time."
The main duty of the Federal Reserve Board is to influence interest rates by "loosening" or "tightening" the money supply -- namely, by buying or selling bonds or securities on the open market.
When the economy is lagging, the Fed purchases securities and increases the money supply. This enables banks to loan more money to companies and individuals, which in turn makes the economy grow faster. Likewise, when the economy grows too fast, the Fed sells securities. This takes money off the open market and reduces bank reserves, thus slowing down the economy and protecting against inflation.
As chairman of the Fed, Greenspan has the ultimate say in Fed monetary policy, and thus, the ultimate say in governing how much money is on the open market. His decisions affect the buying power of millions. Such power is not to be taken lightly, and Greenspan is certainly noted for his great discretion and prudence.
Modern economic theory states that the less government involvement, the better, and Greenspan certainly has held to that standard, with a marked preference for subtle, rather than drastic, policy adjustments.
President Reagan nominated Greenspan for his first term in 1987, and Greenspan has remained at his post through four successive presidencies -- a testament to his considerable financial acumen. Greenspan took office June 20, 2000 for his fourth term, which will end June 20, 2004.
During the boom of the 1990s, Greenspan was hailed as a genius. Critics cited Greenspan's passive policy making as the cause for the years of blazing economic growth. Unemployment was at a record low of 3.9 percent. It was widely believed that America had entered a new era of higher, more efficient productivity.
However, the tables turned on Greenspan when the boom ended in March 2001. Suddenly, the country was in its first recession in 10 years, and the second most powerful man in America was held responsible. Where once he was the beloved hero of Wall Street, Greenspan was now its scapegoat.
Now, the same hands-off policy that critics praised during the boom is the one that the economic world blames for the current recession. Many, including noted economist Henry Kaufman, believe Greenspan and the Fed could have -- and should have -- done much more in order to prevent the slump in the economy.
Many wonder why Greenspan did not utilize other tools available to the Fed, such as increasing margin requirements. Critics also wonder why Greenspan did nothing to tame the economy during boom time, such as buying securities to reduce the amount of market currency.
In his defense, Greenspan cites the widespread belief that American workers were becoming more efficient, and thus he and the Fed were justified in letting the money supply increase.
The debate over what the Fed should or should not have done is endless. But what Greenspan's critics "fail to recognize is that 1991-2001 was the longest period we'd ever gone without a recession," Economics Prof. Jason Taylor said. "History tells us that it had to end sometime and typically, the bigger we rise the harder we fall into recession."
In addition, many of Greenspan's critics forget that although he is the chairman, the Fed is run by a board with policies determined collectively. Greenspan is not solely responsible for their policies. And even if he were, the Fed cannot be held entirely responsible for the economy as a whole.
Although the Board holds as much power over the economy as does any institution, the fact remains that there are more factors that go into producing economic well-being than solely monetary policy.
As the Fed's main policy tool, what should have been done with the interest rates has of course come under intense debate.
However, "it's really hard to say, and unfortunately there is no consensus even among economists on that," Economics Prof. Marco Cagetti said. "And in any case, monetary policy can only do so much."
The reason behind Greenspan's current woes may not be the result of actual policy failures but of the expectations attributed to him during the 1990s. It was impossible for anyone to uphold the standards to which Americans held its director of monetary policy.
"Greenspan did well during the 1990s, but it was wrong to idolize him as the person most responsible for it," Cagetti said. "He's following similar rules now, and it's equally wrong to blame him for the recession."
Furthermore, "While every recession seems bad while you're in it, to Greenspan's credit, this may be one of the mildest recessions we've ever experienced, and that's remarkable," Taylor said.
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