Connect the Dots

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To summarize; (1) Mr. Greenspan was warned that he was igniting an unsustainable asset bubble, (2) he threw more gasoline on the fire, (3) he then advised consumers to switch to ARMs right before what he knew (for certain) would be a protracted period of rising interest rates, and then (4) kept mum while bankers worked feverishly to pass bankruptcy legislation that was indisputably banking-friendly but a consumer nightmare. Kind of sounds odd when you put out there like that doesn’t it?

Now here’s the interesting part about the story. To consumers, Adjustable Rate Mortgages (ARMs) are good or bad depending on whether interest rates are rising or falling. When interest rates fall the ARM adjusts down with them. The reverse is true when rates are rising.

As the following highly technical table makes clear, you really, really don’t want to be holding an ARM during a rate hiking campaign.



Clearly, when interest rates are about to embark on a sustained rise the best advice to consumers would be to lock in a low rate conventional mortgage.

But when we refer to the four data points in the chart above, we observe that Mr. Greenspan advised consumers to take advantage of ARMs right before the onset of what he knew would be a multi-year rate hiking campaign. Obviously he advised people to do the exact opposite of what they should have done. Why did he do that?

We can look at this two ways. On the one hand we could assume that Mr. Greenspan is a very poor banker and that despite his long career in banking he did not have access to the requisite highly technical information (see Table 1, above) and was simply unaware that it was very bad advice to steer people towards ARMs mere months before the onset of a protracted rate hiking campaign. On the other hand we could assume Greenspan knew exactly what he was doing and conclude that his motivations lay with shielding the banking industry from rising interest rates by cajoling consumers into ARMs at the very worst possible moment in the past 50 years.

Naturally, I’d like to assume the best but given the two options, I’m not sure which horse to root for. If I hope he was just a fool, what hopes should I pin on our chances for an agreeable resolution to the credit bubble he created? And If I’m to assume that all his actions were a depraved attempt to shield large banking institutions from a bit of risk then I need to accept the possibility that all of his policies were geared towards promoting institutions over people.

So which is it?

History will tell, but the early returns suggest you would be better off getting your financial advice off the back of a Wheaties box than you would from Mr. Greenspan.

As for me, I’m wondering what to do with all these potatoes.

Trivia question: Who was in attendance at that 2002 meeting with Greenspan?
Answer: Ben Bernanke.

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