Greenspan Effect

By Sara Burack

You may have heard the saying "When Greenspan talks, people listen." Alan Greenspan, the chairman of the Federal Reserve Board, is considered by many to be one of the most important people in the United States. Analysts study every move that Greenspan makes in hopes of predicting whether or not he will change interest rates.

During his time as Chairman of the Federal Reserve Board, Greenspan has given many speeches. He has given speeches on the status of our economy, including the stock market and economic data. Most recently he gave a speech on consumer prices which caused the Dow Jones Industrial Average to drop 266.9 points.

Greenspan was born in 1926 in New York City. Greenspan received a PhD in economics. His resume includes a long list of different economic related jobs, including chairman of the Federal Reserve Board market committee, member of the board of trustees at the Rand Corporation, Director of the Institute for International Economics, Corporate director of J.P. Morgan, President of the National Association of Business and Economics, as well as other positions. On August 11, 1987, he took the position of Chairman of the Federal Reserve Board and would soon face the challenge of rebuilding the economy after the 1987 market crash.

In the past few months, Greenspan has made two particular references to the year 2000 computer related problem. One of the speeches which included the topic was given on September 17, 1999, and the other was given on October 15, 1999. His first speech about the oncoming century was positive. Greenspan stated that the date will not be the biggest problem, but "the major challenge is calming businesses and households about the fright of Y2K." Greenspan also spoke of his concern for inflation and business inventories. "If only a small percentage of businesses chose to add to their inventories as a hedge the effect on production will be insignificant. However, should a large number of companies want to hold even a few extra days of inventories, the necessary, albeit temporary increase in production or imports to accommodate such stock building could be quite large. Bottlenecks could develop, and market prices could ensue."

On October 15th, when Alan Greenspan gave his second speech on the year 2000 problem, he said that the only way we will be affected by Y2K is if "Businesses change their buying patterns." Greenspan also acted as an oracle and is now predicting that "The probability cascading computer failures in mission-critical systems is now negligible." Dr. Greenspan also noted that banks are the safest place to keep money despite fears of Y2K. Greenspan is trying to discourage many Americans who are uneducated about the Y2K problem from pulling all of their money out of banks in fear that the banks will collapse because of Y2K.

Ironically, on October 11,1999, Greenspan made a speech about "The Evolution of Bank Supervision." Over the past few years, many American banks have expanded and merged with other banks. Most of these mergers are from banks that are already large, but after the merger they become even larger. Such examples are Chase-Chemical, Nations Bank Corp. Bank America Corp, and Bank One Corp. First Chicago. "The more complex an institution's business activities, the more sophisticated must be our approach to prudential oversight," Greenspan said, "We face the reality that megabanks being formed by growth and consolidation are increasingly complex entities that create the potential for unusually large systemic risks in the national and international economy, should they fail."

The week of October 10th was one of the worst weeks for the stock market in the last decade. After Greenspan's remarks about the banks proved to have little effect on the economy because of the fact that there was nothing at all closely related to interest rates, the "Greenspan Effect," seemed to cease. But the next week, when Greenspan spoke on October 15, 1999 about "Measuring Financial Risk in the Twenty-First Century," the Greenspan Effect was back in full force. This report triggered fears that inflation may be closer than expected. This along with Thursday October 14th's speech about stock prices being too high caused many investors to pull their money out of the stock market.

In Greenspan's October 15th speech, he also remarked about the 1.1% increase in Producer Pricing Index. There were three factors involved in the increase in the producer pricing index. Because the global demand for oil has increased over the last two years, the price of a barrel of oil has increased 150% since its low. Coupled with the rise in car prices and the increase in Tobacco prices, inflation seems to be rapidly increasing.

For a brief moment on October 15, 1999, the Dow Jones Industrial Average traded below 10,000 points for the first time since last April. It ended the day at 10,019.71, down 266.9 points, but finished above 10,000, which is a significant number for the stock market. It was down 5.9% for the week, ending the worst week in a decade. Greenspan cautioned that "stock prices increased in recent years significantly in part because investors think equities are far less risky than they have historically been thought of, making prices vulnerable if such confidence were to fade."

The recent market correction was caused because many investors panicked about rising inflation, which triggered a large sell off. On November 16, 1999 the Fed raised rates 25 basis points. The Dow rose because Greenspan promised no more rate hikes this year.

Robert Barbera said, "They (the Feds) recognize the economy is growing too fast, and they are going to raise rates until the economy begins to slow down." Since unemployment is only around 4% it will be impossible for our economy to continue to grow at the same pace because there is a shortage of employees.

As of October 16th, Fane Lozman noted that the Dow Jones Industrial Average lost more than 200 points on each of seven days this year, four of which were after September 21,1999.

Dr. Greenspan ended his speech saying that confidence plays a major role in the Stock Market. If confidence is lost then so are the high gains of the Dow.

A commentator on CNBC, Mr. Spiedman, said that Greenspan is not trying to manipulate the market, however, the effects after he speaks shows a different story. So "When Greenspan speaks, people REALLY do listen!"