In this story at Aljazeera(?), Dean Baker, co-director of the Center for Economic and Policy Research, looks back at the late, great housing boom that turned to bust and offers some suggestions for what Federal Reserve Chairman Alan Greenspan should have done.
First, the Fed has responsibility for maintaining the stability of the US economy. Alan Greenspan should have recognised the bubble and done everything in his power to burst it before it grew to such dangerous levels.
Step one in this process should have been to document its existence and show the harm its collapse would bring. This means using the Fed’s huge staff of economists to gather the overwhelming evidence of a bubble and to shoot down anyone who tried to argue otherwise.
Second, the Fed has enormous regulatory power beginning with setting guidelines for issuing mortgages. They first issued draft guidelines in December of 2007. It was not hard to find abusive and outright fraudulent practices in the mortgage industry, if anyone in a position of authority was looking for it.
Finally, the Fed could have used interest rate increases to rein in the bubble. This should have been a last resort, since higher rates would have slowed the economy at a time when it was still recovering from the collapse of the stock market bubble.
To maximise the impact of any rate increases, Greenspan could have announced that he was targeting the housing market. He could have said that he would continue to raise rates until house prices were brought back to a more normal level.
This surely would have gotten the attention of the mortgage industry and potential homebuyers. Would it have been an extraordinary action from a Fed chair? Sure, but so what? It might have prevented the devastation now ruining tens of millions of lives.
Well, if there’s one thing no one has ever accused Greenspan of it’s being a party-pooper.
All of these actions – though sensible – would have required the former Fed Chief to dramatically change his way of thinking that, at the time, saw markets as self-regulating, a view that he later, famously found a flaw in (see Greenspan finds a flaw from 2008).