Greenspan Warns Be Afraid of U.S. Bond Market Bubble
Interest-Rates / US Bonds Aug 11, 2015 - 09:10 AM GMTBy: Bloomberg
Former Federal Reserve Chairman Alan Greenspan spoke with Bloomberg's Tom Keene about the U.S. economy, bond market and Fed policy.
On how afraid we should be of bubbles, Greenspan said: "Very much so. I think we have a pending bond market bubble. If we merely substitute the structure of equity prices and we have the price of bonds and instead of expected equity return we do have expected interest rate return. That price earnings ratio is an extraordinarily unstable position."
On the problem of low productivity in the U.S., Greenspan said: "I think it's the most serious problem that confronts not only the United States but the world at large and more exactly the developed world especially. American productivity is not significantly different from zero growth in the last 6 or 8 quarters. And the cause of that, if you work backwards through the causative chain is capital investment has been inadequate to fund the amount of assets that you need."
TOM KEENE: There was a moment when we were bewildered by why nation's productivity was so good and America running on all cylinders. It is a distant memory. With commodities imploding, with the quantitative easing bubble in the making, and with stunning weakness in America's efficiency it is a good time to speak to Alan Greenspan and particularly after our recent conversation with Vice Chairman Stanley Fischer.
When did you meet Stanley Fischer? A few years ago?
ALAN GREENSPAN: Back in the last century.
KEENE: Well that would have been that. But I thought it was fascinating as he addressed some of the challenges as a public official you do not speak about Yellen or Bernanke policy. But you can speak on this conundrum, a word from you, of our nation's productivity. It's evaporated. Does that give you; is that something we should fear?
GREENSPAN: I think it's the most serious problem that confronts not only the United States but the world at large and more exactly the developed world especially. American productivity is not significantly different from zero growth in the last 6 or 8 quarters. And the cause of that, if you work backwards through the causative chain is capital investment has been inadequate to fund the amount of assets that you need.
KEENE: Stan Fischer just sat in your chair and said that. That we need more investment in America. All of our viewers, our listeners agree with that statement. Can government be the catalyst to more investment that creates more jobs, that allows for a greater productivity?
GREENSPAN: The only catalyst effect that would be useful is withdrawing, not moving forward. Of course if you look underneath the data, what you see is that starting essentially with 2009 following the crisis, the GDP as we conventionally measure it has divided itself into two significantly different sectors. One is for assets which have a life expectancy of more than 20 years, mainly structures, but heavy equipment--
KEENE: Older stuff, bigger stuff.
GREENSPAN: Bigger stuff, not old though, bigger stuff. That which is capitalized over a very long period and the remainder of the economy. The remainder of the economy is not behaving significantly differently from previous.
KEENE: So Chairman Greenspan you affiliated with Republican politics is the mandate for Republicans to jumpstart infrastructure in America, which leads us those long lived assets?
GREENSPAN: Let me put it to you this way, I haven't discussed partisan politics since I joined the Fed in 1987.
KEENE: Can we break that rule today?
GREENSPAN: No.
(LAUGHTER)
GREENSPAN: I won't do that. But ask me a different question which will get the same answer.
KEENE: I'll get the same answer OK. Let's look at this phrase ultra accommodative which Stanley Fischer I'm going to say coined. Are you surprised that the Central Bankers after you have struggled with raising interest rates? It's almost as if we have too much information. Did we have the right amount of information with early Greenspan and later Arthur Burns?
GREENSPAN: (INAUDIBLE) question which I don't think we're going to know except in retrospect. We're in a wholly different state than the Fed that I worked with. And I think Stan just (INAUDIBLE) obviously. He understands what the problems are; I'm delighted that he is there to help out.
KEENE: You wrote a trenchant paper worried about bubbles. You identify certain kinds of bubbles. We have quantitative easing of course in Europe and Japan now in force. How afraid should we be of bubbles and particularly within the bond market?
GREENSPAN: Very much so. I think we have a pending bond market bubble. If we merely substitute the structure of equity prices and we have the price of bonds and instead of expected equity return we do have expected interest rate return. That price earnings ratio is an extraordinarily unstable position.
KEENE: Mm-hmm.
GREENSPAN: And what ultimately will determine where it goes is to reach back and to ask ourselves, where is the normal interest rate?
KEENE: Right.
GREENSPAN: And one of the things that occurred to me as a consequence of the 2008 crisis which I knew something was brewing but I missed the actual date as frankly did everybody else. Something very fundamentally different was going on. And I went back and looked at what my premises were about the way the system worked. And I found that there are very significantly different problems that behavioral economics is really covering. And this particular question and where the optimum interest rate is, is a behavioral issue.
KEENE: Well let's bring it to this morning. Bill Sharp out at Stanford comes up with a Sharp Ratio which talks about the risk-free rate. Does Alan Greenspan or Stanley Fischer or Mr. Buffett spending $37 billion large this morning in a merger, do any of you know where the risk-free rate is? How can Warren Buffett make an investment transaction if he doesn't know that rate?
GREENSPAN: I would say you merely ask yourself what determines interest rates fundamentally. And it's human time preference. It's the extent to which we discount future values. You know one obvious case is take a look at people standing in line for a new Apple computer a year or so ago. Now what would they pay to get a position farther, closer to delivery date? That is human time preference. But human time preference is best measured by interest rates. Interest rates going all the way back in human history, as far back as we can get it, have not been significantly different from where we are in the pre-2008 period.
KEENE: In the time that we have now of course we enjoy the OPEC collapse in 1986, what is the character of this commodity collapse? If we see oil finding new lows? Copper down as well? The easy answer is China. I don't buy that. Why do we see commodities implode and what does it signal for America?
GREENSPAN: Well oil has to be differentiated from the rest of commodities. Fundamentally what's created the problem in oil is US production. We have added a million barrels a day since the last three years. So, because of our fracking. Extraordinary insights. And it is showing no signs yet of pulling back despite the issue of much, much lower oil prices.
And what that is telling is that they're getting the costs down lower and lower and we're going to have--
KEENE: Right.
GREENSPAN: Continued crude oil decline.
KEENE: We've got 30 seconds left. March 6 of next year, you will enjoy your 90th birthday. Will you play tennis on March 6?
GREENSPAN: Yeah probably.
KEENE: Very good. Alan Greenspan thank you so much, the former Chairman of the Federal Reserve Bank.
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