Column

THE BUBBLE MASTER

Will Alan Greenspan be able to once again reinflate the American economy?

DONALD COXE July 21 2003
Column

THE BUBBLE MASTER

Will Alan Greenspan be able to once again reinflate the American economy?

DONALD COXE July 21 2003

THE BUBBLE MASTER

Column

Will Alan Greenspan be able to once again reinflate the American economy?

DONALD COXE

STOCK MARKETS worldwide are soaring. Bears have been put to flight. Happy days are here again, right?

Well, just ask the U.S. board of distinguished economists charged with the sacred task of certifying when recessions begin and end. It still can’t round up enough votes to declare that the recession that began in the year 2001 is over.

Ask CEOs of the airline, hotel and officebuilding industries, and they’ll say they have no idea when the grim times will stop.

In Continental Europe and Japan, economists talk of growth in the 0.5 per cent range, so they don’t have to use the “R” word. Their economies are, technically, still growing—roughly at the riveting rate of a bonsai display in the waiting room at the Bank ofjapan.

So what is making stock markets boom now the way they are supposed to boom only when there’s a real boom?

A glass of beer with no bubbles is flat and cannot be revived. But a dull, stale, flat and unprofitable economy can be revived by injecting and sustaining bubbles. That, in easy-to-swallow terms, is the current investment consensus.

Federal Reserve chairman Alan Greenspan, with help from most central bankers abroad, is back to his bubble-blowing—infusing massive amounts of cash into the system at ever-lower interest rates. (When the Queen knighted him, many observers suggested he be named to the Order of the Bubble. Her Majesty, it appears, was not amused.)

Mr. Greenspan is 77 years old, which may not seem old for knights, but is a tad mature for non-Japanese central bankers. This year, President George W. Bush met with Greenspan, announced that he planned to reappoint the chairman when his term expires next year, and by the time Sir Alan got back to his office, money had started growing on trees.

There are many ways to measure the amount of money in the economy. Two of the most useful are the total of all reserves

in the U.S. banking system and M-2, which is the best-known measure of the money circulating in the entire economy. Neither of those two widely watched measures has grown rapidly until very recently, despite the dramatic plunge in U.S. interest rates.

Demand for credit from creditworthy borrowers has been falling as fast as interest rates, so overall money-supply growth has remained moderate. This has frustrated the Bushies, who quite naturally equate slow growth in money supplies with slow growth in the economy. The Bush family assigns much of the blame for Bush senior’s election defeat in 1992 to Greenspan’s unnecessarily tight money policies. (Greenspan ostentatiously denied there was a recession in 1991, a measure of what a singular seer he was— and may still be. He was, perhaps, the only

THE OPTIMIST sees recent bullishness in stocks as a harbinger of a global recovery. The pessimist says the bubble will burst.

American between the ages of three and 103 who didn’t notice the recession.)

So what do those measures of monetary policy say now? Bubbles... big time. Adjusted reserves have grown since April 16 at the astounding annualized rate of 57 per cent. (For most of the past three years they had been growing at single-digit rates.) As for M-2, it has grown since April 21 at 16 per cent, exactly twice the rate it has grown over the past year—including the powerful spurt since April. Sir Alan’s printing presses have been busy.

Meanwhile, the Bank ofjapan and the Bank of China have also been printing money madly. It’s not that they are kowtowing to Bush and Greenspan: it’s that they are holding their own currencies’ values low at a time when the U.S. dollar is extremely weak.

That way, exporters in those two countries continue to get billions of dollars each week as their share of the U.S. trade deficit. They are forced to cash their winnings in for yen and renminbi, respectively, which means the central banks have to grow their money supplies pell-mell.

Meanwhile, over in Euroland, where usually is heard a discouraging word, the European Central Bank has been doing a restrained imitation of what those other central banks are doing—lowering interest rates and increasing money supplies.

Warning to Reader Dazed By Monetarism: Do not let your eyes glaze over. The best is yet to come.

Sir Alan is justly famed for his ability to blow bubbles. From October 1998 to March 2000, Nasdaq was the proud beneficiary of two of history’s biggest bubbles. First came the collapse of Long-Term Capital Management, a hedge fund backed by some of the biggest names around, including two Nobelists in economy, a failure that so terrified Greenspan that he went on a bubble binge. Then came the Y2K scare. There was only a brief gap between those sustained infusions of liquidity, so Nasdaq’s p/e ratio rose, more or less continuously, from the 80 range to 351 in the course of the index’s run from 1,425 to 5,000. Along the way, thousands of corporations came to believe that the Nasdaq-based creatures of the New Economy would put them out of business if they didn’t buy gazillions of dollars’ worth of tech gear. During this bubble, the U.S., and much of the industrial world had one of the biggest capital-spending booms of all time before Sir Alan stopped inflating the bubble.

Can he reinflate the burst bubble? Will the magic potions of central bank liquidity prove to be love’s first kiss for those sleeping economies abroad? If you’re an optimist, you believe that Sir Alan will do it again. The newfound bullishness in stocks is, therefore, a harbinger of a global economic recovery.

If you’re a pessimist, you just grumble that this bubble will inevitably burst.

If you’re a realist, you figure the bubble will not burst before those somnolent economies get going.

Sir Alan may get one more win. 171

Donald Coxe Is chairman of Harris Investment Management in Chicago and of Toronto-based Jones Heward Investments. dcoxe@macleans.ca