New Business January 13, 2010, 1:18PM EST

The FCIC Should Swiftly Summon Alan Greenspan

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January 1933: Banker Donald Durant is sworn in before a Senate panel Bettmann/Corbis

Greenspan's hands-off orthodoxy

The best way for the commission to make a name for itself is not to focus solely on banker avarice and mortgage fraud—much of which has already come to light in the past year—but to conduct a symposium on the fundamental causes of our financial troubles. The two major ones: 1) the persistently low interest rates in the early 2000s that inflated the bubbles in housing and credit and 2) the notion that financial markets police themselves.

As the Fed's domineering chief from 1987 to 2006, Alan Greenspan enforced a hands-off orthodoxy based on the idea that government officials can't distinguish between markets overheating dangerously and prices rising because of economic fundamentals. Rather than prick bubbles too early, the Fed should do damage control after a crash, he told the Senate Banking Committee in July 1999: "mitigate the fallout when it occurs, and, hopefully, ease the transition to the next expansion."

Following this strategy, Greenspan did little to address the Internet craze of the 1990s, which ended in a stock bust and recession. He and his colleagues mitigated the fallout by hacking interest rates and flooding the economy with cheap money. That seemed smart at the time—the recession of 2001 was relatively brief. But by keeping rates artificially low for several years, the Fed replaced the Internet stock bubble with a real estate bubble, as New Yorker economics correspondent John Cassidy observes in his instructive book How Markets Fail (2009). Faced with the consumer borrowing binge and soaring home prices that ensued, Greenspan and his colleagues did nothing.

They also ignored the manic leveraged gambling on Wall Street that was predicated on a fantasy of ever-rising real estate values. Investment banks could be trusted to keep one another honest, Greenspan said.

Needed: Frank testimony by Greenspan

That turned out to be incorrect. Greenspan's legacy is to have combined reckless easy money policies with even more reckless antiregulatory zeal, Richard A. Posner, the economist and federal judge, argues in his forthcoming volume, The Crisis of Capitalist Democracy. Posner adds: "The regulators of money and banking—of monetary policy and financial intermediation—were asleep at the switch."

So I suggest that the crisis hearings quickly move to giving Greenspan the third degree. In his characteristically convoluted way, the ex-Fed chairman already conceded to Congress, in October 2008, that he had been naive about self-regulation. Let's get him to say it in plain English—and more than once. Hearing a discredited Greenspan concede egregious error could possibly free Washington of his lingering influence; it could even embolden a few more lawmakers to show some resolve in the face of Wall Street's formidable lobbying machine.

The commission could sit Greenspan's successor, Ben Bernanke, next to him at the witness table. Bernanke, who has agreed to testify, acknowledged in early January that regulatory failings contributed to the crisis. But since he was at Greenspan's right hand as a member of the Fed board for most of the crucial 2002-06 period, Bernanke's passive-voice implication that it was someone else's regulatory screw-ups that led to woe seems, well, inadequate. Even more disturbing, Bernanke continues to insist implausibly that low interest rates didn't feed the bubblefest.

A reincarnated Ferdinand Pecora would want to skewer a few dishonest mortgage peddlers and unmask reckless credit-default-swap jockeys. Some of that wouldn't hurt. But if the Financial Crisis Inquiry Commission wants to make its own name, the panel needs to expand its witness list by at least one.

Barrett is an assistant managing editor at BusinessWeek.

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