Greenspan Alert

  THE US STOCK MARKET IS RUNNING AMOK;
  THE ASIAN CRISIS IS RUNNING AMOK;
  WE'VE GOT SERIOUS PROBLEMS, SHIRLEY,
  Now the Gold Standard on the other hand…

Let us review financial history for a moment to establish a benchmark. The purpose is to set the stage - so to speak- for the observations to be made about the U.S. Federal Reserve Board Chairmen's recent speech at the semi-annual Humphrey-Hawkins testimony before a House banking panel on July 21-22, 1998.

In 1967 Economic Consultant Alan Greenspan made the following prophetic comments to the press. Only pertinent excerpts will be shown here reprinted from the book - which came from "Capitalism, the Unknown Ideal" by Ayn Rand with additional articles by Alan Greenspan - 1967. The Greenspan article from which the excerpts were made was called
"GOLD AND ECONOMIC FREEDOM."

"An almost hysterical antagonism toward the gold standard is one issue which unites statists of all persuasions. They seem to sense-perhaps more clearly and subtly than many consistent defenders of laissez-faire-that gold and economic freedom are inseparable, that the gold standard is an instrument of laissez-faire and that each implies and requires the other."

"Whether the single medium is gold, silver, sea shells, cattle, or tobacco is optional, depending on the context and development of a given economy. In fact, all have been employed, at various times, as media of exchange. Even in the present century, two major commodities, gold and silver, have been used as international media of exchange, with gold becoming the predominant one. Gold, having both artistic and functional uses and being relatively scarce, has always been considered a luxury good. It is durable, portable, homogeneous, divisible, and, therefore, has significant advantages over all other media of exchange. Since the beginning of Would War I, it has been virtually the sole international standard of exchange."

"When banks loan money to finance productive and profitable endeavors, the loans are paid off rapidly and bank credit continues to be generally available. But when the business ventures financed by bank credit are less profitable and slow to pay off, bankers soon find that their loans outstanding are excessive relative to their gold reserves, and they begin to curtail new lending, usually by charging higher interest rates. This tends to restrict the financing of new ventures and requires the existing borrowers to improve their profitability before they can obtain credit for further expansion. Thus, under the gold standard, a free banking system stands as the protector of an economy's stability and balanced growth."

"… The excess credit which the Fed pumped into the economy spilled over into the stock market-triggering a fantastic speculative boom. Belatedly, Federal Reserve officials attempted to sop up the excess reserves and finally succeeded in braking the boom. But it was too late: by 1929 the speculative imbalances had become so overwhelming that the attempt precipitated a sharp retrenching and a consequent demoralizing of business confidence. As a result, the American economy collapsed. Great Britain fared even worse, and rather than absorb the full consequences of her previous folly, she abandoned the gold standard completely in 1931, tearing asunder what remained of the fabric of confidence and inducing a world-wide series of bank failures. The world economies plunged into the Great Depression of the 1930's."

"Under a gold standard, the amount of credit that an economy can support is determined by the economy's tangible assets, since every credit instrument is ultimately a claim on some tangible asset. But government bonds are not backed by tangible wealth, only by the government's promise to pay out of future tax revenues, and cannot easily be absorbed by the financial markets. A large volume of new government bonds can be sold to the public only at progressively higher interest rates. Thus, government deficit spending under a gold standard is severely limited."

"In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. There is no safe store of value."

"Deficit spending is simply a scheme for the "hidden" confiscation of wealth. Gold stands in the way of this insidious process. It stands as a protector of property rights. If one grasps this, one has no difficulty in understanding the statists' antagonism toward the gold standard."

(Editor's Note: The word "statists" is an euphemism for "politicians")

Fed Chairman Greenspan's Cardinal Points

As usual Chairman Greenspan was at his peak verbal eloquence. He answered all questions without notes, without hesitation - demonstrative of a professional on top of the situation and in complete control of the monetary environment of the mightiest financial power on the globe.

Although his speech was methodical and well calculated so as NOT to utter inadvertently another "IRRATIONAL EXUBERANCE," he did give subtle warnings of grave problems… and even warnings that the "off-shore" financial tsunami might eventually devastate Western beaches. Following are U.S. Fed Chairman Greenspan's words of caution… and subtle hints of what might come to pass… ŕ la 1967.

Greenspan View of Gold Standard

"Central banks of necessity determine what the money supply is. If you're on a Gold Standard or other mechanism where central banks do not have discretion, then the system works automatically. The reason why there is very little support for a Gold Standard is that the consequences of those types of market adjustments are not considered to be appropriate in the 20th and 21st century. I'm one of the rare people who hold some nostalgic view about the old Gold Standard, as you know, but I must tell you that I'm in a very small minority."

Greenspan View of US Stocks

"History tells us that a "significant" market correction is inevitable, but when the crash may come is anyone's guess," Federal Reserve Chairman Alan Greenspan warned in his Humphrey-Hawkins report to Congress.

Like Federal Reserve Chairman Alan Greenspan, several Wall Street pundits see an impending stock market correction, possibly as soon as the end of summer.

They say three of the pillars of the bull market -- falling interest rates, declining inflation and rising corporate profits -- are all in question, putting any further gains in stock prices on shaky ground.

"Before the summer is out, all the conditions for a crash, a severe and very painful move to the downside, will be in place," said Cantor Fitzgerald chief market analyst Bill Meehan.

Greenspan, in the second leg of his Humphrey Hawkins testimony to Congress Wednesday, warned of the inevitability of a correction. He said the only question was when.

"Ultimately, history tells us that there will be a correction of some significant dimension. What it does not help you on very much is WHEN," he told the House Banking Committee.

Greenspan reiterated concerns he voiced Tuesday -- and has raised repeatedly in the past -- that stock valuations had reached levels hard to sustain.

"Expectations of earning growth over the long term have been undergoing continual upward revision by security analysts since early 1995," he said.

"These rising expectations have, in turn, driven stock prices sharply higher and credit spreads lower, perhaps in both cases to levels that will be difficult to sustain unless the virtuous cycle continues."

Greenspan sent the stock market reeling in late 1996 with a word of Caution about irrational exuberance in the market.

Federal Reserve Chairman Alan Greenspan warned Congress on Wednesday the soaring U.S. stock market could be ripe for a fall and drove home his threat of higher interest rates should the economy not slow down.

Greenspan stopped short of posing the now-famous question of whether Wall Street had a case of "irrational exuberance" -- comments which shook world markets in December 1996.

But he said "past experience suggested stock investors' winning streak was bound to end sooner or later."

"Ultimately history tells us that there will be a correction of some significant dimension," he told the House Banking Committee. "I have no doubt that, human nature being what it is, that it is going to happen again and again."

Greenspan View of the Asian Crisis

Chairman Greenspan's assessment of the raging Asian Crisis was blunt. He sees "an implosion of confidence in Asia." He sees it as "Pessimism is feeding on pessimism in Asia's deepening financial crisis - and there is no sign yet of a recovery."

Greenspan said there was as yet no sign that the raging crisis in Asia was abating. "The recent data still exhibit deterioration," he said.

Addressing Asia, Greenspan said the number of countries experiencing difficulties "is not surprising," and warned that "the risks of further adverse developments in these economies remain substantial" and that the full effects had not yet been felt.

"The extent and pace of recovery of Asian economies currently experiencing a severe downturn will have important ramifications for prices of energy and other commodities, the strength of the dollar, and competitive conditions on world product markets," Greenspan said.

He said Asia's woes remained a wild card in the economic outlook. At best, the turmoil is expected to contribute to the slowdown in U.S. growth. At worst, it could cause a downturn and tip the world's top economy into recession.

Greenspan said there was a risk the region's problems could severely harm the U.S. economy as demand for American products overseas plummets. But he said that, at least for now, the risk of higher inflation outweighed the threat of recession.

Greenspan, using strong language in testimony to the House of Representatives Banking Committee, said it was hard to predict when Asia's troubled economies would start to improve.

He described events in Asia as a vicious cycle -- the opposite of the virtuous cycle of growth and investment seen in the United States.

"You get an implosion of confidence in which pessimism feeds on pessimism." he said. "Everyone withdraws from activities related to an economy, trust... falls and the situation feeds on itself in a downward spiral."

"Countries in Asia and beyond are suffering from the fallout of the crisis, which started in Thailand just over a year ago. Many, including regional powerhouse Japan, are already in recession and the yen is under pressure on doubts about whether a new government will carry out much-needed reforms."

But Greenspan gave no sign that the U.S. authorities were again ready to sell dollars to support the yen. He said intervention could not alter the value of a currency if the fundamentals pointed in the other direction.

Chairman Greenspan was UNCHARACTERISICALLY blunt and plain speaking about the Wall Street's Bubble and the Asian Crisis. However, he slyly interjected what seemingly was an aside when he mentioned the Gold Standard.

Whereas not a few condemn Greenspan for usually speaking in nebulous terms in the past - oft defying interpretation - NO ONE can accuse the Chairman of the U.S. Fed of interjecting irrelevant commentary into his rhetoric. Especially before a Committee of Congressional Members. Therefore, this analyst believes Mr. Greenspan had a very specific objective in mind when he alluded to his seemingly "romantic" impression of the Gold Standard.

Otherwise, why bring it up?!

Vronsky 25 July 1998