Alan Shrugged: Greenspan, Ayn Rand and Their God That Failed

In a
congressional hearing room on Thursday, former Fed Chairman Alan
Greenspan, one of the most influential civil servants of the past
century, saw his stock plummet--and his entire career lose its moorings.
More important, the ideological battle over economic theory and the
role of government in markets--a fight that has played out in the
current presidential campaign--took a historic turn.

With
members of the House oversight and government reform committee blasting
Greenspan for his past decisions that helped pave the way for the
current financial crisis, he acknowledged that his libertarian view of
markets and the financial world had not worked out so well. "You know,"
he told the legislators, "that's precisely the reason I was shocked,
because I have been going for 40 years or more with very considerable
evidence that it was working exceptionally well." While Greenspan did
defend his various decisions, he admitted that his faith in the ability
of free and loosely-regulated markets to produce the best outcomes had
been shaken: "I made a mistake in presuming that the self-interests of
organizations, specifically banks and others, were such as that they
were best capable of protecting their own shareholders and their equity
in the firms."

In other words, whoops--there goes decades of Ayn Rand down the drain.

Democrats on the
committee made Greenspan eat ideological crow. And after the hearing,
Democratic Senator Dianne Feinstein of California released letters
Greenspan had written to legislators in 2002 and 2003 that now cast the
former chief banker as out of touch with financial reality.

Back then,
Feinstein was pushing for regulating financial instruments known as
derivatives--particularly those called swaps. In 2000, Republican
Senator Phil Gramm, then the chairman of the Senate banking committee,
had used a sly legislative maneuver to pass a bill keeping swaps free
from federal regulation. (Lobbyists for financial firms had helped to
write the bill.) The swaps market subsequently exploded, as financial
firms bought and sold swaps as insurance to cover their trading in
subprime securities and other freewheeling financial products. In a
nutshell: the rise of unregulated swaps enabled the growth of the shaky
subprime securities at the heart of the current financial crisis.
Greenspan was an ardent supporter of keeping swaps virtually
unregulated.

In 2001, Enron,
having gone crazy with energy derivatives, collapsed--after the firm had
manipulated the California electricity market, costing residents of
Feinstein's states billions of dollars. Following that fiasco,
Feinstein decided the derivatives market needed to be reined in. As The Wall Street Journal
reported in 2004, "When she telephoned Mr. Greenspan for support, he
declined, telling her the proposal threatened the multitrillion dollar
derivatives industry, which he considers an important stabilizing force
that diffuses financial risk."

In September
2002, Greenspan, Treasury Secretary Paul O'Neill, Securities and
Exchange Commission chairman Harvey Pitt, and Commodity Futures Trading
Commission chairman James Newsome wrote a letter to members of Congress
to note their opposition to legislation that would regulate
derivatives. They wrote:

We
believe that the [over-the-counter] derivatives markets in question
have been a major contributor to our economy's ability to respond to
the stresses and challenges of the last two years. This proposal would
limit this contribution, thereby increasing the vulnerability of our
economy to potential future stresses....

We
do not believe a public policy case exists to justify this governmental
intervention. The OTC markets trade a wide variety of instruments. Many
of these are idiosyncratic in nature....

While
the derivatives markets may seem far removed from the interests and
concerns of consumers, the efficiency gains that these markets have
fostered are enormously important to consumers and to our economy.

Greenspan and
the others urged Congress "to be aware of the potential unintended
consequences" of legislation to regulate derivatives.

They got it exactly wrong. Swaps and derivatives ended up undermining, not bolstering, the economy.

Feinstein was
not convinced by Greenspan's argument, and she continued to press for
legislation to regulate swaps. And Greenspan continued to resist. In a
June 11, 2003 letter--also signed by the new Treasury secretary. John
Snow, the new SEC chairman, William Donaldson, and CFTC chairman
Newsome--Greenspan praised derivatives and called them an essential part
of the economy:

Businesss,
financial institutions, and investors throughout the economy rely upon
derivatives to protect themselves from market volatility triggered by
unexpected economic events. This ability to manage risks makes the
economy more resilient and its importance cannot be underestimated. In
our judgment, the ability of private counterparty surveillance to
effectively regulate these markets can be undermined by inappropriate
extensions of government regulations.

They were
asserting that government regulation undercuts market-driven
self-regulation. But as events have demonstrated, unregulated swaps did
not protect Big Finance firms; they weakened the entire financial
industry in the United States and overseas.

In a November 5,
2003 letter, signed only by Greenspan, the Fed chair again took a shot
at Feinstein's proposal to control derivatives. He noted that "enhanced
market discipline" would address concerns about the manipulation of
markets.

Before the
oversight committee, Greenspan said that he had been "partially" wrong
to believe that swaps did not need regulation. But he did seek cover by
claiming he had not been alone in screwing up: "The Federal Reserve had
as good an economic organization as exists. If all those
extraordinarily capable people were unable to foresee the development
of this critical problem...we have to ask ourselves: Why is that? And
the answer is that we're not smart enough as people. We just cannot see
events that far in advance."

But not everyone
got it wrong. In the late 1990s, regulators at the CFTC wanted to
regulate swaps. Gramm, Greenspan and others--including senior members of
the Clinton administration--did not. Following the Enron debacle,
Feinstein took a run at this. But Greenspan and Bush administration
officials said no. And it was not an issue of smarts; it was a matter
of ideology.

In fact, it was
always a matter of ideology for Greenspan, a libertarian champion. In
1963, writing in Rand's "Objectivist" newsletter, he noted, "It is in
the self-interest of every businessman to have a reputation for honest
dealings and a quality product." Regulation, he maintained, undermines
this "superlatively moral system." Self-governance by choice, he said,
would be more effective than governance through government. Regulation,
Greenspan maintained, was the enemy of freedom: "At the bottom of the
endless pile of paper work which characterizes all regulation lies a
gun."

Well, it turns
out that at the bottom of the system that Greenspan oversaw for years,
there was nothing but a pile of bad paper. And testifying to the House
oversight committee, Greenspan, one of the more ideological Washington
players of the past few decades, essentially said that Ayn Randism had
let him--and the entire world--down. It was truly a God that failed.

David Corn is Mother Jones' Washington bureau chief.