Greenspan's Testimony Jude Wanniski November 14, 1997

In his testimony before House Banking yesterday, Fed Chairman Alan Greenspan was asked by Rep. Barney Frank [D-MA] if he still looks at gold as an inflation indicator. Yes, he said: “It’s a meaningful tool to evaluate the expectations of inflation, which if you’re talking about the gold price denominated in dollars, it’s one of the major indicators we would employ to make judgments about the expectation of inflation. At current prices, we’re still more than nine times what we were a generation ago.” Frank did not follow up, but tells me he took Greenspan’s answer to mean that gold, at nine times its price of 1971, is still not low enough. The markets took it the same way, which is why it was bid down overnight from $308 to below $300 at one point today. In our October 29 letter, “Alan Greenspan, Deflationist,” we noted that despite Greenspan’s declamations that a rising gold price signals inflation ahead, he will find ample excuses to watch gold fall by $70 this year and still not call it deflation. He still calls it “disinflation,” which may mean he will not be satisfied until he sees several months of zero increases in the consumer price index. This would imply gold being driven down further with no comment from the chairman.

It becomes clearer in dissecting his explications that Greenspan does not consider inflation or deflation monetary phenomena. For several years, I genuinely believed he would be happy if he could see gold settle at $350. But I thought the same of Wayne Angell when he was a Fed governor, until gold began falling below $350 and Angell expressed pleasure that it was doing so. I also thought The Wall Street Journal, under the leadership of Robert L. Bartley, was serious about having gold kept within shouting distance of $350, but now that it is looking over the fence into the $200 range, the Journal merely hopes that Greenspan will keep it above $300. Jack Kemp sympathizes with our criticism of Greenspan, but prefers to stay on the sidelines, telling our client dinner Wednesday night at NYC’s Yale Club that he doubted his lone voice would matter even if he spoke up.

Nowhere in Greenspan’s testimony was there any sense that his conduct of Fed policy in permitting this dollar deflation has caused difficulties for the rest of the world. When I urged him to reconsider his new zest for dollar deflation, pointing out that he was thereby causing economic misery throughout the developing world, not to mention Japan, he merely had his office call my office and ask that I take him off our mailing list. He no longer wishes to hear what I have to say, after a decade of my singing his praises. Why are all our old gold friends choosing silence at the deflation and slamming the door on our analysis? The answer is best found in Kemp’s chief economist at Empower America, Larry Hunter, who argues that with nothing much bad happening as gold falls, perhaps it should settle at a lower level. At least in Greenspan’s mind, we can be sure he relishes the idea of a zero increase in the CPI somewhere in our future, which would mean no increase in Social Security benefits and no adjustment of tax brackets. It becomes easier to project balanced budgets in a deflationary environment.

Unhappily, the costs of deflationary wreckage are very high and eventually will come around to cause more damage than it has thus far, merely knocking 700 points off the Dow Jones Industrial Average. In the worldwide dollar inflation that began 30 years ago, it was the commodity-producing countries that first felt the euphoria. If this is what inflation is like, let’s have more of it. In the worldwide deflation we are now experiencing, it is the developed world that first is feeling the euphoria. If this is what deflation is like, let’s have more of it. Of the major developed countries, Japan is the only one getting killed by the deflation, because it is doing the best it can to keep its currency stronger than the dollar. This is because our Treasury Secretary, Bob Rubin, continues to warn them against pursuing an “export-led recovery.” In the Keynesian model, which has always been part of Greenspan’s thinking as well, a currency devaluation will cause exports to increase.

Even with the yen almost at 126/dollar, there is no relief to the Japanese banking system or the Nikkei, because gold is at $300, the exchange rate that counts. In the past decade, the average daily price of gold in yen has been ¥46,000 per ounce. It is now at ¥38,000 per ounce, which has dragged down the value of the collateral that underlies the Japanese banking system. The Nikkei at 15,000 suggests all the banks would be under water if they marked their assets to market. This has nothing to do with Greenspan, who blithely blames the Japanese banks for making bad loans. Wayne Angell, now the chief economist at Bear Stearns, at least recognizes the Japanese pain as being caused by a monetary deflation there, and tells me he thinks they should add liquidity until they get the gold price 10% higher, which at current cross rates would put the yen/dollar rate at 138. Yet Angell sees no problem with the dollar/gold price bumping $300. At our client dinner the other night, I told Richard Scott-Ram of the World Gold Council that maybe these folks will not be happy until they see gold at $1 an ounce, at which point it will be so cheap that we could finally pave the streets of New York with it. He seemed horrified at the very thought.

Elsewhere in his testimony, in a question about the Mexico and Taiwan devaluations from Rep. John LaFalce [D-NY], Greenspan made another grave error by arguing devaluations are inescapable when a country runs out of its foreign reserves -- as if this were their only line of defense. Greenspan will probably go to his grave with a blindspot on this issue, refusing to acknowledge that the Mexico or Taiwan devaluations could have been avoided by selling assets out of the domestic portfolios of their central banks. There is absolutely no reason to give the IMF another $3 billion dollars for yet another fund to bail out currencies. Again, Wayne Angell agrees that a contraction of its balance sheet by a central bank is the most efficient way of defending its currency peg -- one that cannot be broken by international speculators.

Coupled with a reading of the minutes of the FOMC’s meeting of September 30, which displays a board entirely in the grip of John Maynard Keynes, Greenspan’s testimony before House Banking assures us there will be no monetary ease until the Fed breaks the back of the world economy. The problems of Southeast Asia are in a way positive for the United States, Chairman Greenspan clearly believes, in that a tidal wave of goods will be coming onto the world market at low prices, which will help keep inflation down here. Forget about pegging gold to stop inflation. Let’s have a rousing world-wide going-out-of-business sale.