- The Washington Times - Friday, October 24, 2008

Angry legislators Thursday officially threw former Federal Reserve Chairman Alan Greenspan off the pedestal that he once occupied as Congress’ most respected economic adviser.

In four hours of questioning before the House Committee on Oversight and Government Reform, the man once called “Maestro” for his mastery of nuance and ability to smoothly guide the economy through treacherous shoals acknowledged for the first time to making mistakes and misjudgments that contributed to what he called a “once-in-a-century credit tsunami.”

A longtime believer in unfettered markets, Mr. Greenspan was a primary force behind the deregulation of the finance industry in the past three decades. Professing “shock” at how quickly the economy and financial markets unraveled in recent weeks, he conceded that his faith in free markets and the financial wizardry of Wall Street was “flawed.”

The acknowledgment was a plum prize for committee Chairman Henry A. Waxman, who scolded the widely heralded former Fed chairman for failing to listen to colleagues who warned him that something was wrong in the rapidly developing market for subprime mortgages in the first half of the decade.

“The Federal Reserve had the authority to stop the irresponsible lending practices that fueled the subprime mortgage market,” the California Democrat said.

“Over and over again, ideology trumped governance,” he said, “and now our whole economy is paying the price.”

Mr. Greenspan said he heeded warnings from Fed Governor Edward Gramlich, who died in 2007, that greater oversight of banks and the mortgage market was needed and expected Mr. Gramlich to propose remedies to be considered by the Fed board. When those never materialized, Mr. Greenspan said, he presumed that Mr. Gramlich’s subcommittee on consumer affairs had decided not to take action after all.

Mr. Greenspan insisted that he could not respond to every warning he received.

“There are always a lot of people raising issues, and half the time they’re wrong,” he said. “We have to do our best, but not expect infallibility or omniscience.”

Mr. Greenspan contended that controlling the rapid growth of subprime and exotic mortgages would have been difficult, in any case, because of the strong appetite that investors around the world had developed for such high-yield securities. As Fed chairman, Mr. Greenspan frequently warned that investors appeared to be underpricing the risks of credit investments because they apparently thought the “euphoric” economic conditions of the early 2000s would go on indefinitely.

The surge in global demand for risky securities among banks, hedge funds and pension funds was the “core problem,” he said. That led to a collapse in lending standards as mortgage brokers strived to produce more of the “paper” that the market demanded. He said one way to curb such abuses in the future would be to require lenders to keep a portion of the loans they make rather than selling them all to investors, to ensure they maintain conservative standards.

On another subject where Mr. Greenspan is frequently faulted, he said he was only “partially” wrong in waging a campaign in the late 1990s to prevent Congress from regulating complex derivative securities - particularly the credit default swaps that have been widely blamed for causing the failure of Lehman Brothers and American International Group, among others.

Mr. Greenspan said he still does not fully understand what went wrong in what he thought were self-governing markets but appeared to place most of the blame on lax risk management by banks, bad economic models and imperfect forecasting.

“That is precisely the reason I was shocked because I’d been going for 40 years or more with very considerable evidence that it was working exceptionally well,” he said.

While committees of Congress are angling to exert greater control over such derivatives, Mr. Greenspan said that probably won’t be needed because most of the complicated markets in question - including subprime mortgage securities - have collapsed and simply disappeared.

“Many of those complex derivatives are gone, never to be seen again,” he said. But he added: “I certainly have no objection to regulating structured investment vehicles, for instance,” which are the off-balance-sheet vehicles that banks used to gamble in the subprime market.

“There are a lot of instruments out there that make no sense. That is what I find most disturbing.”

While Mr. Greenspan gave lukewarm support to renewed regulation of the financial industry, Securities and Exchange Commission Chairman Christopher Cox came out forcefully for vigorous new regulation of credit default swaps and other areas where the markets failed.

Mr. Cox said credit default swaps, which are types of insurance that financial companies sell each other to cover potential loan defaults, should be subject to disclosure regulations and traded on official exchanges, among other requirements.

Beyond that, he recommended far more disclosure and simplification in other complex derivatives markets, which he suggested have served in some cases primarily to enrich the traders and banks that created them.

“Wall Street institutions exist to raise money” on behalf of corporations that want to expand and grow, he said, not to create “a baroque cathedral of complexity that pays itself very well.”

“We need an all-out war on complexity” and the confusion that it breeds, Mr. Cox said. “All of that conspired to let risk grow in the darkness.”

Rep. Christopher Shays, Connecticut Republican, said the effort by committee Democrats to blame Bush administration regulators was not entirely on target, because Congress contributed to the problem by, among other things, failing to strongly regulate Fannie Mae and Freddie Mac until this summer and enacting a heavy-handed securities regulation law in 2002 that did nothing to foresee or forestall the current crisis.

“I met the enemy, and it’s us,” he said.

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