Anchylosis: Have a Looksy: the Fed Rate.

A head scratcher at the time, but ponder this:

"While there are many policy considerations that arise as a consequence of the rapidly expanding global financial system, the most important is the necessity of maintaining stability in the prices of goods and services and confidence in domestic financial markets," he said. "Failure to do so is apt to exact far greater consequences as a result of cross-border capital movements than those which might have prevailed a generation ago."(1995-Doubts Voiced By Greenspan On a Rate Cut)

While you stare at this (click to enlarge):

See that blip between 1985 and 1990 that's the S&L crisis, which caused 700 of those shops to close. But you can see the point I'm trying to make here, starting in 1995 the slope of the Down Jones industrial average starts accelerating. That is the change between 2 points on that graph is less than the next 2 points, until about 2005, but then the slope starts accelerating again.

That's what a bubble looks like, but how does Greenspan factor in here? First a word about what his job was. The fed controls the federal funds rate which sets the interest rate for funds banks can lend to each other. The fed sets this rate by requiring banks to have a certain amount of cash reserves at the fed in the form of Government securities -- which are basically numbers on a balances sheet that the government says are worth what it says. If, after the closing bell, Bank A doesn't have enough reserves it must find another Bank willing to lend money to it so it can bolster its government securities holdings. By controlling the supply of these securities, the Government effectively controls the target rate of these loans. Keynes dictated that when times are tough and economic activity is low the Fed buys a whole bunch of these securities from banks and the banks can then throw that money around. This raises inflation a bit but also opens the sphincters on Wall Street and releases a flow of trading, which, hopefully busies up the economy. When times are chill the fed is supposed to start selling these securities to banks which raises the fed funds rate.¹

All of which can make you a bit batty to think about: rather than just saying the rate is x and holding banks to it, the Fed pilots the boat by effectively locking the tiller and trying to control the wind. Greenspan and Milton Friedman's Neo-Classical nabobs at the fed in 1995, though, were all like "fucks to that, we care about inflation first and foremost, not controlling growth in a cyclical way," and set the federal funds rate at a stable level. Now, pause for a second, Keynesian economics offers a pretty straightforward way to predict what the rate's going to be at any point in time. If the economy's bad (and inflation's under control) it's safe to say it will be pretty low, and if the economy's alright it's safe to say that the rate will be relatively high. Ideally, in this system the rate is predictable, and banks like predictability, because it gives them a base income, and therefore a base to plan all their other bets around. This is called hedging, and for us nerds gives a root for "Hedging your bets".

If the fed funds rate is stable, however, and there is no way of knowing whether or not it will change, banks will lose their collective shit and start looking for safer bets to bolster their base. And out of Greenspan's backwards diction:

"While there are many policy considerations that arise as a consequence of the rapidly expanding global financial system, the most important is the necessity of maintaining stability in the prices of goods and services and confidence in domestic financial markets"

We start to see what he was thinking. Basically he removed a stable bet and forced banks to invest outside of Government -- on top of it all, the dude absolutely hated economic models and formulae -- by inserting a healthy goddamn dose of randomness and whimsy into a historically predictable vehicle. Here we go:

See 1994 to about 2001? Flat. So where do banks look? What has been, historically a pretty solid bet? What changes rates basically inline with the economy, the way the fed funds rate is supposed to? Ummm: