Greenspan's Legacy: The Housing Bust

Writing in the Wall Street Journal yesterday, Alan Greenspan accepted little, if any, responsibility for fueling the housing boom:

I do not doubt that a low U.S. federal-funds rate in response to the dot-com crash, and especially the 1% rate set in mid-2003 to counter potential deflation, lowered interest rates on adjustable-rate mortgages and may have contributed to the rise in U.S. home prices. In my judgment, however, the impact on demand for homes financed with ARMs was not major.
Demand in those days was driven by the expectation of rising prices--the dynamic that fuels most asset-price bubbles. If low adjustable-rate financing had not been available, most of the demand would have been financed with fixed rate, long-term mortgages. In fact, home prices continued to rise for two years subsequent to the peak of ARM originations (seasonally adjusted).

Greenspan comes close, here, to committing the "speculative bubble" fallacy, but he does stop just short: he merely says that the bubble was "driven by the expectation of rising prices". And I am sympathetic to what he says. The boom in U.S. housing prices was pretty much par for the global course, and it's not obvious that a higher Fed funds rate would have prevented it or even slowed it down noticeably.

That said, however, the main reason why the housing bust seems to be much worse in the U.S. than elsewhere is surely those ARMs – which, as Greenspan concedes, were a function of low short-term interest rates. They allowed many people to buy houses they couldn't afford, which in turn created a massive solvency crisis. David Leonhardt, yesterday, explained the dynamic:

As home prices rose ever higher in other parts of Southern California, Paramount became all the more attractive — and prices eventually soared there as well. By last year, the typical house sold for almost $500,000, up from $200,000 in early 2003.
Many of those sales depended on adjustable-rate mortgages with tantalizingly low initial payments, and now that those mortgages are much harder to get, there aren’t many buyers willing and able to pay $500,000.

So long as people can afford their mortgage payments, you're unlikely to have a massive housing bust. The problem in the U.S. is those ARMs, which are resetting to levels which people can't afford. The housing bust (if not the housing boom) is Greenspan's legacy, and it would be nice if he were a little more honest about it.

Comments

[shodai]

Greenspan's legacy goes far beyond just the housing bust! Don't forget the earlier stock market bubble in which he lied about until it was upon us. The big question you have to ask is whether Greenspan is an opportunist, a lousy one at that, unless serving the needs of Wall Street, or just plain corrupt. I lean towards the latter.

[Scorpio69er]

In order to understand our present situation, it is instructive to read this article from the WSJ from June 9, 2005:

In Treating U.S. After Bubble, Fed Helped Create New Threats

* Low Rates Bolstered Economy, But Housing, Foreign Debt Appear Out of Balance

* Greenspan's Legacy at Stake

"If I were a biologist I'd call this a perfect example of symbiosis," former Fed Chairman Paul Volcker mused in a February speech at Stanford University. "Contented American consumers matched against delighted foreign producers. Happy borrowers matched against willing lenders. The difficulty is, the seemingly comfortable pattern can't go on indefinitely."

Almost every economist agrees. The debate is over how, not whether, the global economy rebalances: Will it be smooth, through some combination of declining dollar and accelerating foreign demand? Or will it be chaotic, with a dollar collapse, much higher U.S. interest rates and perhaps a global recession?

Mr. Volcker thinks a crisis is likely. Investor confidence could fade "at some point," he said, with "damaging volatility in both exchange markets and interest rates."

www.andongkim.com/arti...

[WAKEUP]

Greenspan was never the Great God he was publicized as being. Mostly a mouthpiece for long-term "strategists,&quo... who paid him to steer prying eyes and ears away from what they were doing at Bohemian Grove.

[taison]

When Greenspan was praised, he accepted that really well. He never said that it was someone else good effect that good thing happened. But when house bubble bursted, he refused to take any part of the responsibility. What a low life.

[weedwacker]

How the hell anyone can blame Greenspan for the mortgage industry's racketeering is beyond me. All he did was lower interest rates. The hucksters like Arnall and Mozilo ran it into the ground. Greenspan didn't invent "Subprime" or CDOs, nor did he tell mortgage brokers to falsify loan applications or order inflated appraisals.

How can you people be so misinformed?