Remember Alan Greenspan? He was the chairman of the Federal Reserve from 1987 to 2006. Several media sources, including this one, blamed the sub-prime mortgage fiasco that led to the Credit Crisis of 2008 on the easy money policies under the leadership of Greenspan.
But the Credit Crisis aside, it is ironic but true that Greenspan has had a knack for calling stock market bubbles correctly.
For example, in December of 1996, while chairman of the Federal Reserve, Greenspan grew wary about the stock market. In a now famous speech called the “Challenge of Central Banking in a Democratic Society,” along with other observations on the value of stocks, Greenspan essentially argued that the rise in the stock market at that time wasn’t reflective of the poor economic conditions that prevailed.
Within two years of that speech, the stock market started to decline and stocks did not recover until 2006.
In an interview with Bloomberg a few days ago, Greenspan said, “the stock market has recovered so sharply for so long, you have to assume somewhere along the line we will get a significant correction.” (Source: “Greenspan Says Stocks to See ‘Significant Correction,’” Bloomberg, July 30, 2014.)
In the interview, Greenspan says long-term capital isn’t growing and as a result, productivity and the economic recovery will be in jeopardy.
Greenspan is out of the Federal Reserve. But the leader of the Fed today, Janet Yellen, also has reservations about the value of certain stocks. As I wrote on July 16, Yellen had been quoted saying tech stocks were priced “high relative to historical norms.” (See “How Many Warnings Can You Give?”)
I usually don’t care what other individuals think of stock prices. But when you have both a past and current Fed chair worried about stock prices being too high, you need to take notice, because it is the Fed that creates the interest rate policies that affect stock prices.
Will Alan Greenspan be right about the stock market again?
I side with Alan Greenspan. I have been writing for months that we were due for a market sell-off, and that’s exactly what the stock market has delivered over the past two weeks, down almost 800 points for the Dow Jones Industrial Average.
But what Greenspan failed to say in his recent interview was that history is repeating itself again. It is because of the Federal Reserve’s prolonged low interest rate and easy money policies (since 2008) that the stock market has become a bubble again.