By DAVID MOON, Moon Capital Management
We are a nation obsessed with the Federal Reserve Board. It is one of
the few bipartisan (or "a-partisan") entities remaining in society. And at
its helm is a 77-year-old former Juilliard music student with the aura of a rock
Alan Greenspan frequently receives criticism for his actions, accusing him of
being a power hungry, government activist. But he did not originally seek
the status and power he now holds. He turned down an offer to work in the
Nixon White House. At various times in his career, he has argued for the
abolition of all anti-trust legislation, a return to the gold standard, the
"sun-setting" of all federal financial regulations and the elimination of
government meddling in the financial markets. He was a confidant of Ayn
Rand, this century's literary guru for a hands-off government policy.
So how did this laissez faire student become one of the most powerful men in
the financial markets?
By understanding the role of expectations on the financial markets, not by
superior manipulation of interest rates.
When the Federal Reserve Board announced a cut in the target for the Fed
Funds rate on June 24, the general level of interest rates increased in
reaction. Traders said the market was disappointed the Fed cut was only a
quarter of a point. Commentators dissected the Fed's comments, surmising
that Greenspan, et al, were concerned about the prospect of deflation, a
relatively unknown phenomenon in this country.
All Greenspan was doing was trying to manage the expectations of the
In 1996, why did Greenspan comment on the "irrational exuberance" of stock
prices? The Fed has no mandate to stabilize the stock market. But
Greenspan is smart enough to know that unrealistic market expectations create
all sorts of instability ' not just among stock prices. Greenspan also
knows the investment community overanalyzes every word he utters in public.
The Federal Reserve Board is irrelevant to many market interest rates.
The Fed could go into the open market and directly buy or sell securities; this
would have an impact on the rates of the bonds they bought. If the Fed
wanted to decrease 30-year Treasury rates, it could go in the market and buy
billions of dollars of thirty-year Treasuries, driving their yields lower.
But it hasn't done that.
Instead, the Fed has, to date, limited its actions to influencing only the
rates banks charge each other on overnight loans - and only after the free
market already pushed short-term rates into a new low territory. Want to
know if the Fed is likely to increase rates at its next meeting? See if
short-term rates have been increasing prior to the meeting. The Fed has
generally been a follower, a 'confirmer', of sorts.
Many investors (particularly those relying on interest income from bonds and
CDs) berate Greenspan for driving rates to their lowest levels in almost 50
years. But the Federal Reserve didn't do that; the market did.
That's the only way Greenspan would have it.
David Moon is president of Moon Capital Management, a
Knoxville-based investment management firm. This article
originally appeared in the News Sentinel (Knoxville, TN).