Did Greenspan push risky home loans?: The former Federal Reserve chairman denies he encouraged adjustable-rate mortgages. Here's what he said; you decide.
By Bill Fleckenstein
Having just written a book on Alan Greenspan, I assumed I wouldn't have much more to say on the subject for quite some time. But a week and a half ago, the former Federal Reserve chief made a claim so outrageous I felt it needed to be discussed.
On a recent trip to Canada, I happened to read a story in The Globe and Mail, "Greenspan on the defensive," about a question-and-answer session he'd just done with Sherry Cooper, the chief economist at BMO Nesbitt Burns, before a Vancouver business audience.
Weapons of mass denial Reporter Wendy Stueck described the chairman's version of a now infamous speech as follows: "Mr. Greenspan also denied being a booster for risky mortgage products, saying that while he noted advantages in some new mortgage products in an oft-referenced 2004 speech, he spoke in favor of conventional mortgages in an address a week later that has been ignored."
Being quite familiar with that 2004 speech -- in which the chairman had been rather emphatic -- I was shocked to read this claim. I decided to investigate, first by seeing what exactly Greenspan had said in the Q&A with Cooper.
Here is an excerpt of The Globe and Mail's raw Q&A transcript as captured by a court reporter; no audio recording was allowed. Though a bit rough, I have left the transcript in its original form, except for the removal of some nearly incomprehensible phrases in order to make it more readable.
MR. GREENSPAN: In 2004 I went before a Credit Union . . . and I discussed the pros and cons of various types of consumer finance, and I pointed out that . . . fixed rate 30-year mortgages cost a significant amount over the adjustable rate mortgages to buy the insurance against the rise of interest rates. And I said that there are occasions in which that would be a very good thing, and indeed I made a presentation which said that over the past 10 years it would have been very sensible to have taken them (ARMs) out and then at the end of it said of course if interest rates had gone up, it would have been something else.
MS. COOPER: That part was left out.
MR. GREENSPAN: . . . Seven days later, I appeared before the Economic Club of New York before 1,000 people and I get asked the question: (What) were you really saying. . . . In fact, I am more than willing and have been more than willing to pay the premium for a fixed rate mortgage and indeed the mortgages that I've taken out have always been fixed rate. What I was commenting on and I said wasn't described properly in my earlier remarks was that there are certain occasions when it pays to take the adjustable rate mortgage. If, for example, you are a corporate executive who is going to be in certain cities for two years, it probably makes no sense whatever to take a fixed rate mortgage. Probably be far better to take an adjustable rate mortgage, to take the risk. So I strongly clarified my remarks saying that it's true one of the great inventions was the 30-year fixed rate mortgage in the United States.
That never got picked up.
Indeed the issue stayed that way until very recently when all of a sudden the original one comes up . . . not the one a week later. So I plead not guilty.
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Not guilty? Greenspan wants us to believe that he didn't really advocate taking out ARMs and that he was so concerned about being misinterpreted that he clarified the issue when he gave a speech one week later in New York. However, that speech was about the trade deficit, and there is no record of the Q&A he describes.
A lame defense, Mr. Chairman Greenspan gave 22 speeches in 2004. If he had truly been worried about people misconstruing what he was saying, he could easily have given a speech to clarify the issue. He did not.
Here's what he originally said in that Feb. 23, 2004, speech. The emphasis is mine; boldface highlights his endorsement of adjustable-rate mortgages, or ARMs, and the italics illuminate his "defense":
"One way homeowners attempt to manage their payment risk is to use fixed-rate mortgages, which typically allow homeowners to prepay their debt when interest rates fall but do not involve an increase in payments when interest rates rise. Homeowners pay a lot of money for the right to refinance and for the insurance against increasing mortgage payments.
"Calculations by market analysts of the 'option adjusted spread' on mortgages suggest that the cost of these benefits conferred by fixed-rate mortgages can range from 0.5% to 1.2%, raising homeowners' annual after-tax mortgage payments by several thousand dollars. Indeed, recent research within the Federal Reserve suggests that many homeowners might have saved tens of thousands of dollars had they held adjustable-rate mortgages rather than fixed-rate mortgages during the past decade, though this would not have been the case, of course, had interest rates trended sharply upward.
Bill Fleckenstein's new book is now available. Click here to buy it. "American homeowners clearly like the certainty of fixed mortgage payments. This preference is in striking contrast to the situation in some other countries, where adjustable-rate mortgages are far more common and where efforts to introduce American-type fixed-rate mortgages generally have not been successful. Fixed-rate mortgages seem unduly expensive to households in other countries. One possible reason is that these mortgages effectively charge homeowners high fees for protection against rising interest rates and for the right to refinance.
"American consumers might benefit if lenders provided greater mortgage product alternatives to the traditional fixed-rate mortgage. To the degree that households are driven by fears of payment shocks but are willing to manage their own interest-rate risks, the traditional fixed-rate mortgage may be an expensive method of financing a home."
Not guilty? You decide.
Published Feb. 4, 2008
