Greenspan Defends Fed Record in Consumer Protection (Update2)
April 07, 2010, 2:41 PM EDT(Adds comment from Greenspan in sixth paragraph.)
By Joshua Zumbrun
April 7 (Bloomberg) -- Former Federal Reserve Chairman Alan Greenspan defended the central bank’s record on consumer protection in the years before the financial crisis and said regulators can reduce the chances of another meltdown by requiring banks to hold more capital.
“The Federal Reserve, often in partnership with the other federal banking agencies, was quite active in pursuing consumer protections for mortgage borrowers,” Greenspan said in testimony for a hearing today of the Financial Crisis Inquiry Commission in Washington. “Regulations and guidelines, however, do require enforcement, and the structure of the Federal Reserve during my tenure was much more focused on regulation and supervision than on enforcement.”
Congress is considering the most sweeping changes to financial regulation in decades, including a proposal by the Obama administration to limit banks’ proprietary trading and provisions allowing for the orderly wind-down of failing financial firms. Greenspan suggested higher capital standards may be more effective than new rules.
“During the past 18 months, there were very few instances of serial default and contagion that could have not been contained by adequate risk-based capital and liquidity,” he said. In response to a question, Greenspan said “we were undercapitalized in the banking system for maybe 40 or 50 years.”
Rules Listed
Greenspan, 84, who headed the central bank from 1987 to 2006, listed rules and guidance created by the Fed during his tenure pertaining to subprime lending, high loan-to-value mortgages and unfair lending practices. He said the Fed at the time was under pressure from Congress to expand lending, not curtail it.
“There’s a lot of amnesia that’s emerging,” Greenspan said. “I sat through meeting after meeting in which the pressures on the Federal Reserve and all the other regulatory agencies to enhance lending were remarkable.”
He appeared on the first of three days of commission hearings focused on “Subprime Lending and Securitization and Government-Sponsored Enterprises.”
The commission was created last year to examine the causes of the financial crisis that led to the worst recession since the 1930s, pushing the jobless rate as high as 10.1 percent and prompting government bailouts of firms including American International Group Inc. and Citigroup Inc.
With adequate capital reserves, neither Bear Stearns Cos. nor Lehman Brothers Holdings Inc. “would have been in trouble,” Greenspan said.
‘Best We Could’
“What we tried to do was the best we could with the data that we had,” Greenspan said in response to a question. “Did we make mistakes? Of course we made mistakes. I know of no way that can be altered under the existing structure.”
Economists including John Taylor of Stanford University, a former Treasury undersecretary, have said that low interest rates under Greenspan helped fuel the housing boom and bust that precipitated the recession. San Francisco Federal Reserve Bank President Janet Yellen said last June the Fed could have slowed the pace of home price increases by raising interest rates before the bubble burst in 2006.
Under Greenspan, the Fed lowered its benchmark rate to 1.75 percent from 6.5 percent in 2001 and cut it to 1 percent in June 2003. The central bank left the federal funds rate for overnight bank lending at 1 percent for a year before raising it in quarter-point increments from 2004 to 2006.
‘Propagator’ of Bubble
In an interview with Bloomberg Television’s “Political Capital with Al Hunt” last month, Greenspan said “the general notion the Fed was propagator of the bubble by monetary policy does not hold up to evidence.”
Presenting a paper last month at the Brookings Institution in Washington, Greenspan defended the stance of monetary policy while admitting that effective regulation could have held the financial system together. His remarks to the inquiry commission were largely a condensed version of the paper he presented at Brookings.
Greenspan said the crisis originated from the securitization of subprime mortgages, which were fueled by low long-term interest rates that he said were outside the Fed’s control, and international demand for these securities.
He credited subprime mortgages for increasing minority homeownership from 1994 to 2003, and defended financial innovation as necessary for the proper functioning of economies.
“While, fortunately, much financial innovation is successful, much is not,” Greenspan said. “It is not possible in advance to discern the degree of future success of each innovation.”
“The next pending crisis will no doubt exhibit a plethora of new assets which have unintended toxic characteristics, which no one has heard of before, and which no one can forecast today,” Greenspan said.
“If capital and collateral are adequate, and enforcement against misrepresentation and fraud is enhanced,” then losses will be limited to shareholders, he said.
--Editors: James Tyson, Christopher Wellisz
To contact the reporters on this story: Joshua Zumbrun in Washington at jzumbrun@bloomberg.net
To contact the editor responsible for this story: Christopher Wellisz at cwellisz@bloomberg.net;
