August 17, 1999

When Greenspan Talks, People Listen

by Louis Corrigan (TMF Seymor)

Of all the manifestoes delivered at University of California-Berkeley over the years, Alan Greenspan's speech on September 4, 1998 may go down as the one that actually saved the world. With the financial markets melting down, our mighty morphin Federal Reserve chairman stepped to the podium and said, "Don't fear, the G-man is here." Actually, it was more like this: "Moreover, it's just not credible that the United States can remain an oasis of prosperity unaffected by a world that is experiencing greatly increased stress."

Sure, that's pretty oblique for a manifesto. But to the Fed-watching cognoscenti, the brief policy statement, which Greenspan grafted onto an academic dissertation on the new economy, plainly signaled that Greenspan planned to cut the federal funds rate, the rate banks charge each other for overnight loans and which affect interest rates on business and consumer loans.

"Everybody just went out of their minds," exclaims David Jones, chief economist at Aubrey G. Lanston and a long-time Fed watcher. The Friday night speech set world markets afire and drove the Dow up 381 points when U.S. markets reopened. Greenspan would go on to orchestrate three quarter point cuts in the fed funds rate -- on September 29, October 15, and November 17. These moves lubricated credit markets sobered by liquidity and risk premiums, and thus rescued the bull from the bear's clutches.

The Fed chairman can be even more transparent when he wants to be. In his testimony to the Joint Economic Committee of Congress on June 17, 1999, he spoke of the need for "modest preemptive actions" to head off "forces of imbalance before they threaten economic stability."

The Fed aims to keep the economy growing nicely while keeping inflation in check by nudging up interest rates when it looks like price increases are outstripping productivity gains, or soon might. Greenspan's comments meant that when the Federal Open Market Committee (FOMC), the Fed's decision-making body, met in late June, it would almost surely raise the fed funds rate by a mere quarter point (25 basis points) to 5%. (It did.) And that meant the string of rate hikes that the bond market was predicting might not happen after all. The markets quickly rallied.

Next -- Interpreting Greenspeak: Berry and Wessel