Alan Greenspan in 2004

Abstract

In October 2004, one month from the presidential election, U.S. Federal Reserve Chairman Alan Greenspan undertakes a full review of the unusual events of the previous six years, including the devastating terrorist attacks of September 11, 2001. Apart from policy, what were the underlying drivers of the economy? Should he continue along a path begun several months earlier when the Fed began to raise interest rates, or should he suspend such action in order to allow the economy to make a full recovery from the recession of 2001?

Excerpt

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Alan Greenspan in 2004

In October 2004, Alan Greenspan, Chairman of the Board of Governors of the U.S. Federal Reserve System, was confronted with a difficult choice. Should he continue along a path begun several months earlier when the Fed began to raise interest rates, or should he suspend such action in order to allow the economy to make a full recovery from the recession of 2001?

His choice of monetary policy would certainly depend upon what the new administration—given an election in less than one month—chose to do about the course of fiscal policy. The Bush administration had continued cutting taxes even after the cuts implemented in 2001. The economy had gone through much turbulence during the past several years, and Greenspan needed to review the events of the previous six or more years to inform his current decisions. He decided to update his own analysis of the economy and to consider what should be done about both monetary and fiscal policy even though he had no control over the latter. He hoped to influence the direction that the future Bush or Kerry administration would take with respect to fiscal policy.

From early 1998 through mid-1999, Greenspan had been concerned about signs of increased inflationary pressure in the “red hot” U.S. economy. Growth rates had been unusually strong (Exhibit 1). He had been patient and waited until mid-1999 to implement more contractionary monetary policy as he tried to recalibrate his analysis of traditional performance measures because of changes in relationships brought on by the “new competitive economy.” Between June 30, 1999 and May 16, 2000, there were six increases in the target rate for the Federal Funds Rate (Exhibit 2). The first five were increases of 0.25% (25 basis points) each; the last one was an increase of 0.5% (50 basis points). (Exhibits 3 and 4 show data on money supply and market interest rates.)

By mid-2000, Greenspan had expressed his belief that there might be a slowdown coming in the economy. That caused him and his Fed colleagues to express various opinions about where they stood during the period June–December 2000 on the future prospects for inflation and Real GDP growth rates.

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Keywords: global economics