Alan Greenspan Warns of Bond Bubble

Alan Greenspan Warns of Bond Bubble

Former Federal Reserve Chairman Alan Greenspan warned recently that the bond market bubble is in danger of bursting sometime soon. The originator of the phrase “irrational exuberance” is once again pointing out the dangers of low-interest rates and the likelihood that when rates start rising they will rise rapidly.

Greenspan’s Fed and Low-Interest Rates

The irony of Greenspan’s most recent comments is that he was responsible during his tenure as Fed Chairman not only for the creation and bursting of the dot-com bubble but also for the creation of the housing bubble. It was the Federal Reserve under his chairmanship that engaged in easy monetary policy that created the housing bubble.

It was his Federal Reserve that held interest rates too low for too long that set the stage for the financial crisis and the Great Recession. The reputation Greenspan had as the “Maestro” was forever tarnished as people began to realize that it was his conduct of monetary policy that was responsible for the crisis.

The Plunge Protection Team

The tone for Greenspan’s chairmanship was set by Black Monday, the 1987 stock market crash that resulted in the Dow Jones losing nearly 23% of its value in a single day. The response to the crash saw the creation of the President’s Working Group on Financial Markets, aka the Plunge Protection Team (PPT), in early 1988. The group’s aim was to prevent crashes of that type from occurring in the future. The Working Group consisted of the Secretary of the Treasury, the Chairman of the Federal Reserve, the Chairman of the SEC, and the Chairman of the CFTC.

How exactly the Plunge Protection Team works is open to speculation. Unlike government agencies, the PPT’s work isn’t a matter of public record. There is no way for Congress to oversee the Team’s actions either, so it has operated largely in the dark. The PPT’s methods were secret, but reputed to be a combination of direct market intervention coupled with strong moral suasion. Its actions paved the way for the bank bailouts and financial assistance offered by the Fed during the financial crisis.

Both Greenspan’s actions in the aftermath of Black Monday and the actions of the Plunge Protection Team established precedents that the government would intervene strongly to prevent financial markets from collapsing. That means that once the stock market bubble bursts and the bond market bubble collapses, the government will step in to try to shore up financial markets, or at least the companies issuing those stocks and bonds. Investors will still suffer losses, which is all the more reason they need to protect themselves sooner rather than later. Greenspan may have caused bubbles that he was blind to at the time, but the benefit of hindsight appears to have opened his eyes.

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