Original subtitles

The dollar is the most remarkable achievement

in the history of money. Think of it,

this piece of paper costs nothing to produce,

there's nothing behind it except the goodwill of Ben S. Bernanke,

and let us not forget the US Congress.

This piece of paper...

somehow still commands value and respect.

How can the dollar be anything

except the world's greatest monetary brand,

the Coca-Cola of money? Well, you just watch.

Since 1971,

the US dollar and the global financial system

have been based solely upon faith,

faith in the guardian of that currency

and of that system:

the American central bank, the Federal Reserve.

As the world's reserve currency,

the US dollar is how we measure our time,

our products, our self-worth.

Ours is a system based on trust and confidence,

both of which began to disappear in the fall of 2007.

Plunging interest rates helped trigger the housing boom,

but with interest rates climbing back,

many homeowners are having a hard time paying their mortgages.

Fourteen-million people

took a mortgage in the last three years.

Seven million of them will lose their homes.

This is crazy.

The Fed thought that this was a small problem.

When the crisis was first talked about,

this was a subprime-mortgage problem.

And it just kept growing and growing and growing.

Bear Stearns unravelling some big bets

on mortgages that have gone awry.

Government officials scrambling to prevent the collapse

of the giant investment bank Lehman Brothers.

American International Group is seeking

a $14 billion bridging loan from the Federal Reserve.

We were having an electronic run on the banks.

The Federal Reserve's estimation

was that $5.5 trillion would have been drawn

out of the money-market system of the United States,

would've collapsed the entire economy,

and within 24 hours,

the world economy would've collapsed.

It would've been the end of our economic system

as we know it.

Congress could not act in a timely way.

Therefore the Fed felt like it was important

to stabilise the economy, that we do it.

That is not the normal role for a central bank,

nor should it be.

While politicians debated, the Fed acted.

It used its political independence and unlimited power

to create money to provide trillions of dollars in loans

to corporations of all kinds,

dwarfing the Congressional aid that followed.

What people on Main Street and most politicians

didn't understand is that if we didn't do something,

General Electric, Berkshire Hathaway,

General Motors, Citigroup would've pulled down,

Bank of America.

I mean, we came to the brink of the abyss and we looked over,

and it was a long way down.

The Fed really did have to step in.

And this is why the Fed was set up in 1913:

to provide liquidity to the financial system as a whole

at a time when you have a financial panic.

What do you know about the Federal Reserve?

Not much.

There is this perception that people have

that the Fed is this kind of black box.

Nobody quite understands it.

Take care of currency? I don't know.

Where... something about money?

They somehow regulate the stock market.

I think we're mysterious to people.

I think they're not sure what we do.

Sounds like they're printing money. Nu.

One myth that's out there is that what we're doing

is printing money. We're not printing money.

Is that tax money that the Fed is spending?

It's not tax money.

It's much more akin to printing money than borrowing.

- You've been printing money. - Well, effectively.

What exactly is the Fed's job?

It does control the money supply,

set interest rates, regulate banks,

and is supposed to ensure the safety and soundness

of the financial system.

The Fed is supposed to be the guardian of financial stability,

preventing chaos in markets.

Now, usually it can do that.

In the summer of 2008, it couldn't do that,

and we did get chaos.

But what caused the crisis in the first place?

What brought the wealthiest nation in history to its knees?

According to many economists and senior Fed officials,

it was the Fed itself at the eye of the storm.

I'm on record as saying that I thought

the Fed kept interest rates too low for too long.

That contributed to the bubble in housing prices.

This was warned about at the time.

This was textbook, when you take rates that low,

you're going to have a boom, and a bust is likely to follow.

The Fed failed to prevent the housing bubble,

the predatory lending scandal,

and utterly failed to prevent the financial crisis.

So we failed to regulate

the most important part of our financial system.

And I don't think any of us who've ever worked at the Fed

take any comfort from the fact that somebody screwed up.

But I think it's important we recognise

there were some big mistakes made.

Didn't the Federal Reserve System fail?

I know my time has run out,

but I really fundamentally disagree

with your point of view.

And I think there is a natural inclination

that things are fixed, but things are not fixed.

Everybody wants to go back and say, "Things are fine now.

Look, we solved our problem."

We're just asking for another crisis.

This is an experiment. We've never done

this before, we've never been here before.

The Federal Reserve is really operating

by the seat of their pants.

Now, the other side of that is that these are smart people,

hard-working people

who are trying to do the best that they can.

So I think we need to look very carefully

at what the Fed did.

And perhaps even more important

than looking back and blaming people

is the issue of what role should the central banks play

going forward as we start thinking about,

"This is a mess,

and we don't want to do this again."

This isn't the first time

the central bank we created to protect our economy

has instead led us to the brink.

The real currency of the world is trust.

As that slips away,

can the Fed learn from the past?

Can it do it in time?

We haven't had big countries going down,

unable to save the system and collapsing.

That's the crisis we have to worry about.

You have what degree of confidence in your ability

- to control this? - Hundred percent.

Before the Federal Reserve System,

we didn't have a government bank.

The banking system was very fragmented

and we experienced these panics

in which monetary conditions would change.

A shock would hit the economy, the banks fail,

and then other banks would fail.

Bank customers would become suspicious

and they would want to pull their money out of that bank,

and then some other people would be afraid

that their bank would go, and so people would want

to pull their money out of deposits

and withdraw the money as currency.

The banks would not have the currency to pay out,

and they would just close their doors.

There was no lender of last resort.

You didn't have a central bank, like the Bank of England,

that could provide reserves to the New York banks.

1907 was a sort of a watershed panic.

The panic of 1907

was the straw that broke the camel's back.

The US is the biggest economy in the world.

Americans are saying, "Gee, other countries

with central banks are not having

so many financial crises. Why are we?"

They said "Wait a minute, the US government

couldn't deal with this crisis what's wrong with us?"

Brits have the Bank of England, Germans have the Reichsbank,

something has to get done here.

In 1910, Senator Nelson Aldridge summoned

New York's most powerful bankers to an island off Georgia

to secretly negotiate plans for an American central bank.

Travelling under false names in a private railroad car,

the great secrecy of this expedition

would foster conspiracy theories for decades to come.

Later on,

when people got wind of this, they said,

"-oh, it's the same old story of the rich guys

creating something that'll be good for them

and not so good for all of us."

Different parts of the country were suspicious of proposals

that left New York, Wall Street or Washington

too much in control.

It was actually Woodrow Wilson who proposed

what I consider to be an ingenious compromise,

which we have today: a decentralised central bank.

Twelve reserve banks that would be owned

by the member banks,

and a central coordinating authority

in the Federal Reserve Board in Washington.

Over the next century,

the Fed's problems didn't come from its structure,

which divided interest-rate votes

between publicly appointed board members in Washington

and privately appointed regional bank presidents,

and sent any profits to the US Treasury.

What would plague the Fed instead,

in each of its three major crises,

was its reluctance to abandon old ideas,

even in the face of mounting danger.

Trying to overturn an intellectual consensus,

forged amongst...

the reputed best economists in the world,

that's not so easy.

That's not so easy.

Congress created the Fed

to forge a better monetary system.

But in the Fed's first crisis, it failed to recognise

that the world around it had radically changed.

That the gold standard, a centuries-old system

the Fed had been created to manage,

was on the verge of collapse.

There used to be a country called Great Britain.

Now we call it the UK, or Britain.

And Great Britain was this little tiny place

that had this wonderful world-beating banking system

and a currency that passed for good money the world over.

This currency was backed by gold. You could,

not that many people felt they had to,

walk into the Bank of England

and exchange your bank notes for gold at a certain rate.

So the gold standard,

making your money tied to a precious metal,

is a way of stabilising its value,

and restricting the ability,

both of banks and the governments,

to create too much paper money.

But that world came crashing apart

in the summer of 1914,

when World War I began.

To print the money needed to finance the war,

the great powers of Europe abandoned the gold standard.

With Britain bankrupt

and German society destroyed by hyperinflation,

the US, its new Federal Reserve,

and a gold-backed currency emerged pre-eminent.

The United States rose up and supplanted Britain,

and the pound was demoted

from being the world's great reserve currency.

The US becomes the financial leader of the world

almost, sort of, overnight.

While the world economy struggled,

America's boomed, and the Fed realised

it could use its influence not just in times of panic.

Monetary policy,

a power the Fed is still struggling

to manage to this day, was born.

The Federal Reserve has the power to create money.

If you or I run the printing press in our basement,

we're counterfeiters.

When the Federal Reserve runs the printing press,

the electronic printing press, it's monetary policy.

Monetary policy is when the Fed uses its power

to create or destroy money

to lower or raise interest rates.

If it creates more money in the system,

money becomes more available and interest rates fall,

so we're more likely to borrow and spend.

If the Fed takes money out of the system,

we borrow and spend less and are more likely to save.

If you're raising rates,

you want to slow economic activity

to cool inflation. When you lower rates,

you want to stimulate some economic activity.

Change in rates...

by the Fed is really a question of gas pedal versus brake.

In the 1920s,

the Fed reached beyond its original mandate

and began to use this newfound power

to steer the US economy.

The Fed moved into managing the overall macroeconomy.

Now, unfortunately,

its first foray into that was the Great Depression.

Did not do a great job.

The roaring '20s saw the first instance

of a Fed-induced boom and bust.

At first, the Fed's low rates

unintentionally helped fuel stock market and debt bubbles,

which saw speculators borrow more money

than the entire amount in circulation.

An alarmed Fed then clamped down,

raising rates aggressively in 1928

and setting the stage for a recession

and stock-market crash.

Right after the crash, the New York Fed

did exactly the right thing. It provided liquidity

to the New York money market; it prevented a banking panic.

Now, the board in Washington wasn't too happy about this.

They were worried the expansionary policies

the Federal Reserve was following

would lead to a re-ignition of speculation and an inflation.

So the Fed stopped its easing policy.

Well, then trouble hit the banking system,

and the Fed did nothing.

As banks began to fail,

people withdrew deposits, stuck them under the mattress.

Now banks didn't have money to make new loans,

and the economy spiralled down.

Because we were still on the gold standard,

we had trouble figuring out what to do.

We tried to protect our gold position,

which required raising rates at exactly the wrong time.

My grandfather, for example,

went on vacation, two weeks down to Kentucky,

came back and their bank had been closed

and they lost $3,000 worth of savings.

And so instead of providing enough money

to prevent prices from falling,

the Fed allowed the money supply to collapse.

And that's what turned what would've been

a garden-variety recession into the Depression.

It wasn't that the Fed

deliberately created the Great Depression.

They desperately wanted to fix what was going on.

They just had the wrong diagnosis.

That's a view that is widely shared now.

The current Federal Reserve Chairman Ben Bernanke has said,

"We did it", we being the Federal Reserve.

"We caused the Great Depression and we won't do it again."

They were wrong. They learnt...

by the pain and suffering we all felt as a result of that.

First great mistake

was the Great Depression;

the other great mistake was the Great Inflation.

At Bretton Woods, New Hampshire,

delegates arrived for the opening

of the United Nations Monetary and Financial Conference.

Thirty years after World War I tore apart the gold standard,

a new system was finally created to replace it in 1944.

The US dollar would be linked to gold,

and the rest of the world would link their currencies

to the US dollar.

The Fed would be the banker to the world.

But shortly after agreeing to the Bretton Woods system,

Congress passed the Employment Act of 1946.

The country decided to add to the Fed's mission:

stabilising employment over the business cycle.

No one wanted another Depression,

people were afraid of another Depression.

But that conflicted with what they agreed to at Bretton Woods,

because Bretton Woods told them they had to control inflation.

Well, they weren't about to do that.

♪ The best things in life are free ♪

♪ But you can keep them for the birds and bees I need money ♪

In the next great crisis,

the problem wasn't too little money, but too much.

♪ I want money ♪

♪ Yeah that's what I want

Fear of unemployment was the new ideology,

which like the gold standard,

the Fed would abandon only after great social cost.

The middle of the 1960s

was a very nice period.

There was no inflation, no unemployment,

and a lot of self-congratulation in Washington, DC.

They finally had got it,

fiscal policy would be just so, monetary policy just so,

and we would have the kingdom of heaven

right here in the United States of America.

This administration,

today, here and now,

declares unconditional war on poverty in America.

In 1965, President Lyndon Johnson

announced a sweeping vision to transform the country

into what he called the Great Society.

However, beneath the surface of things, there was trouble.

Johnson's Great Society programs

and his massive escalation of the war in Vietnam,

drastically increased government spending

and caused prices in the US to shoot higher.

The war in Vietnam was, like all wars,

the cause of a governmentally orchestrated inflation.

To protect the value of the dollar,

Fed Chairman Bill Martin needed to raise interest rates,

as he had done since 1951.

But Lyndon Johnson was a different kind of president.

Johnson said, "No, we don't want interest rates to rise,

we don't want to derail the Great Society,

to create a recession;

we've got a war to fight." And the Fed caved in.

He knew he shouldn't be doing that,

but he believed it wasn't his responsibility

to tell the Congress they couldn't run deficits.

I've talked for a long time

about the independence of the Federal Reserve.

That's independence within the government,

not independence of the government.

If there was a big private-investment boom,

he could raise interest rates to stop it.

But if there was a big public-expenditure boom,

that was not his responsibility to stop,

that was the Congress.

The results were disastrous.

Vietnam, then Johnson's Great Society programs

on top of that

was too much demand for the economy,

created this immense inflation.

At Bretton Woods, the US had promised

that it would be the world's reserve currency,

backed by gold.

But the Fed had created far more dollars

than it could ever redeem in gold,

and now the US could no longer keep that promise.

By 1971,

it was clear the dollar

could no longer be exchanged into gold.

Finally, President Nixon, in front of a television camera,

bumping, I think, Gunsmoke off the air,

maybe it was Bonanza.

Bonanza will be shown

after a special report from NBC News.

I have directed the Secretary of the Treasury

to suspend, temporarily, the convertibility

of the dollar into gold or other reserve assets.

And that began the modern age... of inflation.

For the first time in history,

the dollar was just a piece of paper,

backed only by faith in the Federal Reserve

and its policies.

Now what does this mean for you?

Your dollar will be worth

just as much tomorrow as it is today.

That promise was only as good

as the Fed actions behind it.

But bowing to pressure from Nixon

and clinging to flawed economic theories,

the Fed refused to raise rates.

Over the next decade,

the cost of living more than doubled,

as the dollar lost more than half its value.

They would tell each other,

"We're not going to let the inflation get out of hand."

Then the unemployment rate would rise

and all that would be forgotten.

Because the political pressures

would grow. Where did they come from?

They came from Congress,

from the administration, from the business community,

from the labour unions.

And it was just very hard to resist.

The whole climate of opinion was against them.

And Arthur Burns, Chairman of the Fed,

did not do what a good central banker should do

and raise rates to break the inflation.

And by the time the '70s ended, it was a total mess.

Prices went up infamously during the Carter presidency.

Inflation was increasing,

and unemployment was increasing at the same time.

That wasn't supposed to happen.

Inflation hits everybody. Unemployment, even at its worst,

hits only about 10% of the population at any one time.

And so the public shifted its concern

from unemployment to inflation in a massive way.

People began to say, "We don't want it.

We won't stand for policies that create ongoing inflation."

I really hate it, because you pay so much for so little.

Good evening. Prices in the United States

during the first three months of 1979

went up at an annual rate of 13%.

The question is: how long will this go on,

inflation running out of control?

The answer: probably for years.

President Carter found himself on the defensive,

because inflation was becoming very unpopular.

Inflation is our friend.

And that's when Carter appointed Paul Volcker.

When I was appointed by Jimmy Carter,

he was kinda up against it. It was a very difficult period.

I told him we were going to have to adopt tighter policies,

and I felt very strongly

about the independence of the Federal Reserve

and that's the way I thought we should act.

Burns said in a speech after he left office,

"We knew", meaning we, central bankers,

"we had to reduce money growth in 1964

or we'd have inflation."

And he lists all the reasons why he couldn't do it.

It was that meeting that Paul Volcker left

to do what Burns said couldn't be done.

People don't like to raise interest rates,

it's not very popular, and there was some resistance

and fear of creating a recession and so forth.

It was a close thing for Volcker

even to pull it off internally.

He had substantial battle within the Federal Reserve.

Volcker had tried to get the Fed governors

to nudge interest rates upward, without success.

So he tried a different tack:

persuading them to focus on controlling the money supply.

It was a sleight of hand,

because the two are essentially the same.

But it was a politically palatable tactic, and it worked.

And when he slowed the money growth rate, predictably,

the interest rate went way up.

Neither he, nor I, nor anyone else,

had any idea how high the interest rate was going to be.

- Eight to nine to 10 percent. - Fifteen percent.

- Eighteen, 19, 20%. - Twenty-one percent.

Really, the highest levels in American history.

He told me, "I never thought we'd have to go to 20%."

But he did. That took courage.

Paul Volcker was villainised for his inflation suppression.

It was a very tough period.

There was a lot of opposition, no doubt about it.

And somebody got the idea of sending in

all these sawed-up 2x4s.

Builders would throw 2x4s on the steps of the Fed

- to protest Volcker's policies. - There was a lot of criticism,

but people forget there was a lot of support, too.

People wanted some leadership to get something done.

Now, the Fed was aware

that it would almost certainly produce a recession.

And Volcker says, "I'm going to stick with my policy."

Even though the recession that begins in 1981

was the longest recession in postwar history.

In that period of a couple of years,

the world's view, the political view,

of the role of the Federal Reserve

and its importance in the country changed dramatically.

And I don't believe it would've been possible

without a man of Paul Volcker's stature,

who understood the business of central banking from soup to nuts,

who understood the costs of not dealing with inflation.

Had those decisions been left to politicians,

it's inconceivable that they would've "voted"

for such a deep recession

to bring the inflation rate down.

That's sort of a generic flaw of political systems:

ask members of Congress to vote for things

that cause short-term pain for long-term benefits,

and it's pretty hard to get the votes.

It's nice that we have leaders who step up

and do the right thing now and then,

take a long-term view.

We could use more of it.

Paul Volcker has advised me of his decision

not to accept a third term as a member and chairman

of the Federal Reserve Board.

With inflation tamed Volcker was expendable,

and President Reagan would not reappoint him to a third term.

But Volcker had restored faith in the dollar

and in our central bank,

and he'd laid the foundation

for an era of unprecedented prosperity.

It would be up to the next chairman to keep it alive.

And for many years, it looked like he had.

It's morning again in America.

The period from about the mid-1980s

till about 2007

was an era characterised by mild recessions

and measured expansions

and by seeming limitless visibility.

The economists called it the Great Moderation.

It reflects the idea that the Fed is on top of things,

and the feeling that the Fed deserves the credit.

And you know, they kinda took credit.

We had a pretty good run

from the 1980s into the early 2000s.

The economy did very well, we had rising stock market,

the Cold War came to an end,

most of the world became more interested

in market economies.

The economy was growing,

unemployment was low.

But surprisingly,

at the same time, we had very little inflation.

And as a result of that,

this was a golden age for the Fed.

And I think there was a change in the public attitude

toward the role of government.

Government is not the solution to our problem;

government is the problem.

In the last 25 or 30 years,

the view that the market usually gets things right,

and that the government only messes things up

became more and more dominant.

Now the Vice President will swear Alan Greenspan in

as the 13th Chairman...

It was in this atmosphere of faith in markets,

and a lack of faith in government,

that Alan Greenspan,

a free-market advocate who mistrusted government,

was chosen to lead

the government's most powerful agency.

Greenspan's widely known, was in the day,

a disciple of the radical individualist Ayn Rand.

I am for an absolute laissez-faire, free,

unregulated economy.

If you separate the government from economics,

you will have peaceful cooperation

and harmony and justice among men.

One of the great ironies of his career,

and of our national life:

Greenspan, the so-called "Ayn Rand guy,"

became the chief price-fixer of money.

Greenspan's first test would come immediately.

In the last five years,

the US stock market had more than tripled in value,

as a result of falling interest rates,

low inflation,

and a rediscovered faith in American capitalism.

The point is, ladies and gentlemen,

that greed, for lack of a better word,

is good.

Though greed wasn't new to Wall Street,

the means for satisfying it were.

For the first time, the market was making widespread use

of complex financial products like derivatives.

Some, like portfolio insurance,

were supposed to protect investors from big losses.

This was the early use of mathematics in the stock market.

Dumbest thing anybody ever believed,

that everybody could sell at once.

But this was what the mathematics said you could do.

This has been the worst day ever

in the history of the New York Stock Exchange.

The Dow off more than 500 points,

paper losses more than $500 billion...

The market suffered its largest one-day drop ever,

and held its breath,

wondering if the Fed and its new Chairman

were about to repeat history.

There was a point, before lunch, that looked

like the gates of hell were about to burst open again

and we were going, you know, another 20, 25% down.

The fear in the market quickly spread,

and so the Federal Reserve lowered rates very rapidly,

provided liquidity very openly.

Alan Greenspan handled that event very successfully:

reassured the markets, eased monetary policy.

You say this is really good,

this is why you want this monetary policy to be the way it is.

And so there was a lesson there: you know, you can intervene,

you can end the crisis.

It was a historic moment.

Nearly 75 years after its founding,

the institution created to prevent banking panics

had succeeded in doing precisely that.

But it came with a dangerous precedent.

From now on, the Fed would be expected to lower rates

based not just on problems in the real economy,

but in the stock market as well.

And you end up with a Fed

whose original...

narrow mission expanded dramatically.

Fed Chairman Alan Greenspan didn't wanna see any regulation

of banks and markets; and on the other hand,

he's pulling switches and moving levers, you know,

more than any Fed Chairman before or since.

Having cast aside his ideals to rescue the market,

Greenspan would soon master the art of intervention.

In Alan Greenspan's case,

I think it's important to understand

no one but Alan Greenspan had ever engineered

what we call a soft landing.

That is, you've had interest rates low,

the economy's accelerating,

you then raise rates, you slow the economy down,

without letting inflation get out of control

or without throwing the economy back into a recession.

So the plane is supposed to come in

and just barely touch the ground as it lands.

That's what you always shoot for,

usually, you get a bump.

'94, '95, Alan Greenspan,

Chairman of the Fed, raised rates very rapidly,

punched the bond market in the nose in '94,

because he wanted to cool the economy down.

The economy keeps growing, inflation doesn't accelerate,

and we get an investment boom in the middle years of the '90s.

That was really amazing, it hadn't been done before.

What followed was the longest economic expansion

and largest stock-market boom in US history.

An economist with no prior banking experience

had become The Maestro.

Well, I was on the Fed

from around the middle of 1994 until 1996.

I was Vice Chairman.

Now, that's not as high a job as it sounds

when Alan Greenspan is the Chairman.

It's not quite right to call him dictatorial;

that was never his demeanour. But he ran the show.

We all know when Chairman

Greenspan talks, the world listens.

So by the time all those things had happened,

Alan Greenspan was about as close to God

as one can come and still be on this Earth.

First of all, nobody should ever be deified,

because none of us is God.

That did happen to Greenspan,

and one corollary of deification is people think you know

and people think you'll always get it right.

The concrete manifestation of that,

inside the Federal Reserve, is that it became very hard

to criticise Greenspan in any way.

I mean, who wants to stand up to God?

But playing God with the business cycle

had consequences,

and the Fed soon faced a new challenge

and a new kind of inflation.

By the time the 1990s rolled around,

inflation of things, at the checkout counter,

was rather a receding memory.

But it was succeeded by a kind of inflation

that we have learnt to call "asset inflation."

That is, prices not of goods going up,

but of stocks, bonds, real estate,

and other investment assets going up.

On Wall Street, that's known as a

bull market, and everyone's for it.

We've never had, in this country,

a period when the stock market was going up 15% a year

for a sustained period of time,

and people thought that was going to continue.

Everybody loves a boom. Who is there who dislikes it?

But Greenspan was concerned

that the boom was really a bubble.

So he raised a red flag.

In 1996, Alan Greenspan gave a speech.

In characteristically multisyllabic formulation,

he didn't say, "Isn't this market crazy?" No.

"Might there not be irrational exuberance?"

How do we know when irrational exuberance

has unduly escalated asset values,

which then become subject

to unexpected and prolonged contractions,

as they have in Japan over the past decade?

Japan was a cautionary tale of what can happen

when stock-market and real-estate bubbles explode

in a frenzy of speculation,

as they did in Tokyo in the 1980s.

Creating a bubble and having it break

is utterly dangerous. In fact, there has never been...

a great depression, a very severe recession,

that was not preceded by an asset bubble

in the entire twentieth century.

At the peak of the bubbles,

a three-square-mile area in Tokyo

was worth more than the entire state of California.

But in 1989,

the stock market collapsed, followed by real estate,

and the Japanese economy has experienced

deflation and slow growth ever since.

The Japanese are essentially in their economy

where they were 17 years ago.

They've had two decades of going nowhere.

Greenspan had responsibly waved the warning flag,

but the markets refused to listen,

and instead turned on the messenger.

The financial world drew in its breath in shock

and disapproval

over the Fed's stepping over the line.

People were saying, "Have your Chairman stay out of our business.

Don't talk down the stock market."

So Greenspan,

who likes to be liked almost above all other things,

gave this up, this idea that the stock market was too high,

and instead began to cheer it on.

Greenspan would never again

lean against the wind of popular opinion.

As stocks soared to record heights,

he refused to use his power to cool overheated markets,

and would instead intervene aggressively

at the first sign of weakness.

Investors were rocked by the near-collapse

of a huge financial operation

run by Wall Street's version of a Dream Team.

Long-Term Capital Management was a large hedge fund

run by some very smart people.

But they guessed wrong.

And they were in deep trouble,

and it turned out they had borrowed a lot

from major financial institutions in New York,

and if they went bankrupt, might bring the system down.

The US Federal Reserve arranged

for a $3.5 billion bailout by Long-Term's creditors.

Without that help...

In what was to become an all-too-familiar pattern,

an institution considered too big to fail

had been protected from the market.

That was the dress rehearsal for this current collapse.

You had a lot of leverage,

theories that have proven to be false,

hard-to-value derivatives,

and a tremendous wasted opportunity

to impose some lessons, some discipline, on those banks.

The bailout also saved

Wall Street firm Lehman Brothers,

which was at risk of bankruptcy

after firing the one man who saw the crisis coming.

I ran derivatives at Lehman Brothers,

and I was actually fired

because I did not want to do these trades

with Long-Term Capital Management.

The comment I got fired for was,

"I'm an expert on derivatives, but my bosses

don't really understand the risk that I'm taking."

Lehman's CEO never did learn about risk.

By 2008, he'd borrowed $600 billion

to become the biggest mortgage player on Wall Street,

and the biggest bankruptcy in history,

confident to the end the Fed would never let a firm

four times larger than LTCM go bust.

So this alleged Libertarian was presiding over

the socialisation of risk in our economy.

It was perfect.

So we're not a free market, then? There is an invisible,

there's a benevolent hand.

God, no. That's the way it comes off,

but that's not the way to think about it.

Six days after rescuing Long Term Capital,

in the middle of the largest stock bubble in US history,

the Fed backed the bailout with an interest-rate cut.

It would cut rates twice more in weeks to come.

And cutting interest rates...

exacerbated the boom, in retrospect.

Greenspan was acting

in ways his predecessors never had.

So much so, that Wall Street gave it a name:

the "Greenspan Put."

So the Greenspan Put is the idea:

you can take any risk, and you can,

in effect, "put" it to the Fed.

Look, if the market gets too far out of hand,

I'll rescue you.

That's essentially how traders interpret it.

In other words, it's a backstop.

Something under you that supports you in adverse times.

And it encouraged a whole lot of excess trading,

and more leverage. That's what moral hazard is.

When you rescue people from their own behaviour,

they're more likely to engage

in riskier and riskier behaviour.

The Fed thought it could protect the market

with easy money,

but its promise of a safety net

unleashed a surge of borrowing, debt and risk.

It would not just transform the economy,

but distort it.

During Greenspan's reign, the financial sector

would double its share of the economy.

Companies that once sold products would now sell loans.

General Electric essentially was a hedge fund.

General Motors, etcetera, car companies.

They didn't make money selling cars;

they made money financing cars.

And firms that had once worked

in service to their clients

would now make enormous profits trading for themselves,

engineering evermore exotic financial products

like derivatives, which, unlike traditional assets,

were bought and sold in secret

and left completely unregulated.

Financial derivatives have grown at a phenomenal pace.

Despite the concerns

these complex instruments have induced,

they have contributed to the development

of a far more flexible and efficient financial system.

Despite the fact that derivatives

lay at the heart of both the '87 crash

and the LTCM bailout,

Greenspan resisted any attempt to regulate them,

even leading the charge against Brooksley Born

when she tried to monitor

this exploding market under existing laws.

I am very concerned

that we will put in place

a set of new forms of government regulation

of all sorts, which will not work.

I see no evidence to suggest

that this is a troubled market.

What are you trying to protect?

We're trying to protect the money of the American public,

which is at risk in these markets.

If you're going to let companies

write this form of insurance against extreme events...

someone has to figure out

whether it's innovation or a scam.

So someone's got to police that. The mistake I made,

in my own thoughts, at the end of the '90s,

was assuming that would take place,

and it didn't.

Greenspan's ideology won out,

and 10 years later,

the US taxpayer would spend over $182 billion

bailing out insurance giant AIG's

unregulated derivatives unit.

Greenspan also repeatedly declined

to enforce the Glass-Steagall Act,

which separated traditional banks

from Wall Street.

The message was clear:

the nation's most powerful banking regulator

considered regulation itself obsolete.

Coming out of the 1970s under Paul Volcker's leadership,

the strength of the banking system

was very high up on the agenda.

But there was then a generation of monetary economists

who were taking the banking system for granted.

And it was like: supervision will take care of itself.

There is a presumption that regulators

will have a better insight into the nature of the problems

than the markets themselves.

Now, I know most of the people who would be in charge

of making the types of judgements that would be required for that,

and I will tell you

that they don't have a clue as to what to do.

And that was the hubris that was infecting us,

because of the period of Great Moderation.

So the ideology became very strong,

and... as you know, it all broke down.

The smart folks that run the financial markets

are so skilful that they can take care

of all these problems themselves.

That sounds like a caricature, but people really believe that.

Lots of people really believe that,

and some of them were running major regulatory agencies,

such as Alan Greenspan.

The Fed was offering the markets an amazing deal:

no regulation to prevent you taking risk,

but if your bets went wrong,

lower interest rates to rescue you.

US stocks soon became more overvalued

than at any other time in history.

Stocks got to just astronomical levels.

People were forming new companies

without any business plans;

investors were giving them money and saying,

"Build your website, your reputation, we don't care.

The faster you spend it, the better."

I mean, it was absolutely ridiculous.

We were worried about that at the Fed,

and we talked about it a lot.

Should we raise interest rates

in an attempt to prick the bubble

before it got too bad or not, and we decided not.

Bubbles generally are perceptible

only after the fact.

To spot a bubble in advance requires a judgement

that hundreds of thousands of informed investors

have it all wrong

Greenspan said, "Who am I to interfere

with thousands of investors?"

In other words, "the market's sufficient

despite the fact that I'm manipulating it."

So he let it go.

It was only the June meeting,

from 1999, where everybody looked around

at each other and said, "This is unsustainable."

There was a unanimous agreement this was not going to end well.

Then people said,

"Well, I guess what we should do is move interest rates up gently

and wait for the bubble to burst.

This is something the general public doesn't really realise:

when times are good and equity prices are moving up,

people wanna believe.

Prices, in housing or equity, when they're on their way up,

they're on their way up because the general public

has a feeling of buoyancy, of optimism,

some might say delusion.

Four, three, two, one...

Happy 2000.

At the millennium, people still believed,

believed that we had entered a new era of prosperity

and that we had indeed created a new kind of economy.

Like those monetary experts of the '60s,

we thought we'd found the perfect formula.

And we were supremely confident that Alan Greenspan,

as he had done in '87 and '98, could easily save us again.

One earlier Fed Chairman famously said,

"The role of the Fed is to take away the punch bowl

just when the party gets rolling."

Alan Greenspan's attitude was 180 degrees away from that.

Greenspan came to the idea

that the Fed could not identify a bubble as it was inflating.

Now many of us would disagree with that rather vigorously.

It couldn't identify, really, if the market had gotten ahead

of itself, was too high, let alone when it was crazy.

So the role of the Fed is simply to wait till the bubble breaks,

and then pick up the pieces.

While bubbles that burst are scarcely benign,

the consequences need not be catastrophic for the economy.

That was Greenspan's view.

And it has been subsequently ravaged by experience.

The Fed has no such power.

Three months after the ball dropped,

so did the stock market.

The dot-com collapse and 9/11 attacks

put to the test Greenspan's view

that bubbles could be cleaned up afterwards.

And he quickly responded with a series of interest-rate cuts

to soften the blow.

There was a big fear after 9/11

that we were headed for a huge recession.

That didn't happen.

So I think the people who held this view,

coming through the 2000 bubble collapse,

felt very vindicated that it was...

a reasonable approach.

If this is the bust,

the boom was sure as hell worth it.

You agree with that, right?

It looked like Greenspan had done it again,

but there was a catch.

The Fed had softened the dot-com crash

with aggressive interest-rate cuts,

and now those same cuts set off another boom.

The Federal Reserve created so much money,

it had to go somewhere,

we actually found it was kind of interesting

and stimulating to put it into houses.

Lower rates mean lower mortgage payments.

The cost of money was less,

so the next guy who came along could afford to pay you more.

Which created an unsustainable bubble in housing.

In today's struggling economy,

many Americans have taken refuge

by investing in the real-estate market.

The Fed says the housing market is solid,

but others say there's reason for caution.

The ongoing strength in the housing market

has raised concerns about the possible emergence

of a bubble in home prices.

However the analogy often made

to the building and bursting of a stock-price bubble

is imperfect.

The national housing market

is scarcely tinder for speculative conflagration.

Housing doesn't easily bubble.

Homeowners are not looking to speculate

anywhere near the degree of stock investors.

So you have to try, and the Fed did precisely that.

The extraction of equity from homes

has been a significant support to consumer spending.

Were it not for this phenomenon,

economic activity would have been notably weaker.

So we ended up encouraging a housing boom.

We, being the Federal Reserve,

ended up encouraging a housing boom.

I will continue to defend those decisions,

because we had no employment growth

after the bottom of the recession.

The Fed got it into its head

that we were on the precipice of deflation,

a state in which prices generally fall.

Even though house prices were soaring,

globalisation and new technology were keeping goods prices low.

But what was great news for shoppers

set off alarms at the Fed,

where still-falling stock prices

conjured fears of a Japan-style collapse.

The NASDAQ was down almost 80%,

and we had Fed Chairman Alan Greenspan

come along and say,

"I don't want to be the guy that goes out

with a period of weak growth it will be my legacy."

Although that's the normal business cycle;

that's what's supposed to happen.

So instead of suffering the hangover,

he went for the hair of the dog that bit us.

Chairman Greenspan, who's an old friend,

invited me down to talk to him about deflation.

And I told him that I thought the chance of deflation

was very small.

I can tell you that I left the meeting

knowing that I had not made a sale.

And by 2002,

quite serious people, including Ben Bernanke,

who subsequently became Chairman of the Federal Reserve,

were talking about the dangers of deflation,

why we didn't want to wind up like Japan

and what we might have to do to avoid that.

Ben Bernanke, a professor who had just been hired by the Fed,

said, "We're not going to let prices fall.

We are going to create enough dollar bills

to lift the prices of everything by a little."

So because of this fear of deflation,

we didn't have a deflation,

the Fed continued to follow an expansionary policy.

And the Fed proceeded

to press down this rate of interest controls,

the so-called "federal funds rate," all the way down to 1%.

You could scarcely see it, it was so tiny.

I really think that was looking at the wrong thing,

but all of that led to, as you know,

a big boom and a big bust.

If you allow interest rates to remain unusually low

for a long period of time,

you are creating the environment in which a bubble,

or in which a rapid credit expansion can occur.

Deep down, monetary policy screws around with our heads.

And it influences the amount of risk

you and I are prepared to take.

If we think interest rates are going to be low a long time,

we're comfortable borrowing money.

If we think interest rates are going to be very high

for a long time, that induces us

to feel like leaving that money in the bank.

We're going to lower interest rates

to find speculators who said, "Let me take a shot

at building condos."

At a higher rate, they may not take that chance.

Part of that was intentional on the part of the Fed

to get us all to take more risk than we would otherwise take.

I love that house, plus the schools.

The kids are three and one.

They're going to grow up. What?

This listing is special, John. You guys can do this.

- We can do this. - Okay.

Are you kidding me?

And as the housing bubble built up,

cheap credit sort of sustained it.

The fuel for the subprime mortgage crisis

was the accommodative monetary policy by the Fed.

The Federal Reserve stands prepared to maintain

a highly accommodative stance of policy

for as long as needed

to promote satisfactory economic performance.

Greenspan had been hitting home runs for so long

that he thought he couldn't fail.

Determined to get growth at any cost,

his plan was to swap one boom for another

and juice the economy with low interest rates.

But far from solving the problem,

he would trap the Fed in a vicious cycle

from which it has still not escaped.

They took rates down really low.

They hadn't been that low for 46 years

and they never stayed that low that long.

By lowering the price of money,

the Fed was raising the prices of things

bought with borrowed money.

We favoured real estate, for example,

because we didn't want to see people out of jobs.

Well-intentioned, but the consequences are:

we created the incentives to borrow.

And we brought households to debt levels

that no one would've imagined 20 years ago,

not just 50 years ago.

When you looked at it that way you'd say, "-oh."

But Greenspan was theory-bound, and his theory said

you didn't get nationwide recessions in housing.

The Fed thought its policies were safe,

provided inflation remained low.

But had it been measuring inflation

the way it did during the Volcker years,

inflation would've been far higher.

Not only were exploding house prices

excluded from the Fed's new calculation,

but rising food and gas costs as well.

So the Fed kept filling up the punch bowl.

And as opposed to going into inflation of goods prices,

it went into an inflation of asset prices.

That's inflation in the same way,

but it's not called inflation.

So if the stock market goes up and doubles, we don't say,

"Oh, my God, there's been inflation."

Or if housing prices double, we don't say, "Oh, my God,

there's been this enormous inflation."

We say, "Oh, how much richer we are."

But the problem is, we're not richer.

It's simply an illusion of richness.

President Bush signed a housing bill,

which was part of his Ownership Society,

and he said how good it was that people had houses.

New home construction,

the highest in almost 20 years.

Home ownership rates, the highest ever.

But they didn't have any investment in the house.

They didn't have any equity in the house.

So what did they own? They didn't own anything.

They owned a mortgage, which, if things got bad,

they could default. And they did.

Now there are a lot of people who wanna criticise

the American household for being dumb.

Americans borrowed too much.

In part because they did not understand

how to save prudently, how to borrow responsibly,

and they did not understand fully

that pension values and house prices

will not always rise.

I think that's mistaken. I think I would never short

the intelligence of the American consumer.

Sort of the collective wisdom, I think is usually pretty good.

We gave them really low interest rates in 2003-4,

and guess what, they borrowed a lot of money.

So it looked like the Fed had done a great job,

and they were kinda patting themselves on the back.

Our strategy of addressing the bubble's consequences,

rather than the bubble itself, has been successful.

It was not a good year

for optimistic predictions.

Greenspan had kept rates so low for so long

that he'd turned an overheated housing market

into the greatest credit bubble in history.

It would alter the course of the American economy

for decades to come.

You know, the way a healthy economy grows

is people earn money and they go out and spend it.

The way an unhealthy economy grows

is people borrow money and they go out and spend it.

The US in '03, '04, '05, 06' was phantom recovery.

It was all borrowed money.

So instead of building factories that produce income,

we wind up building condos that don't produce anything.

And then we build too many condos.

So this Great Moderation

has only been keeping the economy going,

keeping the economy going,

at the same time as making it less and less productive,

till there was not enough income supporting that debt,

and it implodes on itself.

I think there are several strands

to understanding how we got in this deep a financial mess.

And I like to be clear, I'm not a subscriber

to what I call the Great Coincidence Theory.

That every individual facet of our financial system

seems to have fallen apart at the same time

as part of a great coincidence.

The accounting was all wrong, the bonuses were all wrong,

the capital was all wrong,

the risk management was all wrong,

the regulation was all wrong.

Each and every one of these things was all wrong.

I think when a boiler explodes,

that's a little like blaming each individual rivet.

Now, something fundamental connected all of these things.

Monetary policy was just way too easy,

and the concepts underpinning...

financial regulation were flawed.

And I believed markets and capitalism

had been unfairly criticised,

because it's been bastardised by the government

and the Federal Reserve skewing things

so that we had these massive imbalances.

The Fed's low rates

helped spur a doubling of mortgage debt,

turning the American dream into a tragedy

for millions of families.

But the real borrowing spree didn't happen on Main Street.

Seduced by the same low rates, the world's biggest banks

jumped at the chance to multiply their profits,

with massive borrowing of their own,

or as they say on Wall Street, with leverage.

And this is where the real egregiousness

in interest rates manifests itself.

The Federal Reserve's main policy interest rate

was only 1%.

Now, the inflation rate more like 2%.

We had negative, real two-year interest rates.

That means that to borrow money for two years is free.

Now, this is a problem.

The big banks lend that money out

on a mortgage at 5 or 6%.

Now, if I can borrow money at 1% and lend it out at 6%,

I'm going to make a tremendous profit from that.

That was the problem with the low interest rates.

Financial institutions borrowed too much,

became careless in the lending they did.

Able to borrow money for nothing

and earn huge fees for lending it out,

Wall Street began simply giving money away.

You know, firms like Lehman Brothers

borrowed at those low interest rates,

made mortgage-backed securities on the base of it,

and spread it around the world.

And then we look back at the overall effect and say,

"Gee, we don't like this.

There's something wrong with the market."

But they're actually following the incentive structure

the Fed set up.

Banks at the peak of this crisis

were levered from 30 to 50 to 1,

so 2% equity,

98% debt.

That kind of leverage,

it's "money for nothing, chicks for free."

It's as good as it gets.

Capitalism really doesn't work very well if money's free.

And when it's free for too long, we corrupt the system.

Now, just remember that this thing

isn't as black as it appeared.

All of us remember the movie It's A Wonderful Life

with Jimmy Stewart and the Bailey Building and Loan.

Well, the Bailey Building and Loan made mortgages

borrowing money from depositors and lending it out,

in this case, into homeowners.

And the bank doesn't have it, it's not stuck in the vaults.

The money's not here. Your money's in Joe's house,

and in the Kennedy house and Mrs Macklin's house

- and 100 others. - Well, that meant

that the Bailey Buildings and Loans of the world

had a very big vested interest

in knowing to whom they lent that money,

and knowing that those people had the ability to repay it.

Except from 2002 to 2007,

and that's where the borrower's ability

to make the payments became irrelevant.

It was the lender's ability to sell it

to Wall Street securitisers that was what mattered.

I mean, the whole system was perverse.

And that's how you end up

with all the insane stories we heard about.

- Lots of subprime loans... - Interest only...

Zero percent down and we'll give you 10% back.

Ninja loans.

No income, no jobs, and no assets.

And that was a Ponzi scheme.

A Ponzi scheme connived

in by Federal agencies.

We certainly don't want there to be a fine print

preventing people from owning their home.

We can change the print.

It was the furthest from the Bailey Building and Loan

you could possibly get.

American consumers might benefit

if lenders provided alternatives

to the traditional fixed-rate mortgage.

A growing family with a lot of debt.

A young couple with no down payment.

A business owner whose income was hard to document.

Every one of them was turned down for a home loan

by three different lenders. I'm with Countrywide,

and I got them all approved.

Now, the Fed didn't do that, the banks did that,

but the Fed could have and should have prevented

these crazy mortgages from being granted.

I have a lot of faith in markets.

However, I still need rules and I still need a referee.

Because otherwise you get a chaotic environment

and very bad outcomes.

The Fed could've cut off this speculation quite easily,

but the atmosphere in Washington then was quite the opposite.

We have an excessive concern about home ownership

and its role in the economy.

This is not the dot-com situation.

Homes that are occupied

may see an ebb and flow in the price,

but you're not going to see the collapse

that you see when people talk about a bubble.

To set standards for mortgages would've been going

straight against the political environment.

The Federal Reserve would've been pretty brave.

They should have, in retrospect.

Despite being the only agency

charged with protecting the financial system,

the Fed remained on the sidelines,

later claiming it lacked the authority

to regulate Wall Street's mortgage machine.

But in 1994, Congress had passed

the Homeowner Owner Ownership and Equity Protection Act,

which gave the Fed, and the Fed alone,

specific power to prevent unfair and deceptive mortgage lending.

The Fed had unique authority

to regulate all mortgage lenders.

It finally used it in 2008.

They could've stopped the subprime unit of Lehman.

You had the authority to prevent

irresponsible lending practises

that led to the subprime mortgage crisis.

You were advised to do so by many others,

and now our whole economy is paying its price.

They could not believe it was a nationwide problem.

Okay, they just didn't get it.

Nobody in the entire Federal Reserve system.

Only one guy,

Gramlich was the only one, and they didn't listen to him.

My late colleague, Edward Gramlich, known as Ned,

was very worried about the subprime crisis.

And he did want the Federal Reserve

to police lax lending standards,

but Alan Greenspan did not push forward

with what Ned was recommending.

As Alan Greenspan's term drew to a close,

his transformation of the American economy was complete:

a financial sector of outsized proportions,

housing bloated by borrowing,

a dismantled regulatory system,

and a collective delusion that all was well.

And there's tragedy in what's happened now,

but I think the boom that our economy had,

and the millions of people who got jobs

who wouldn't otherwise have them in the '90s,

is something we owe to Alan Greenspan, too.

Where do you think you made a mistake, then?

I made a mistake in presuming that the self-interests

of banks and others were such as that they were best capable

of protecting their own firms.

They just assumed

that this is what the private market was doing

and people in the private market knew what they were doing.

That still leaves open the question,

which historians are going to be looking at a very long time:

suppose Greenspan and the Fed had this belief.

Why did not the events, as they were transpiring,

shake that belief?

One of the President's most important appointments

is Chairman of the Federal Reserve.

My first priority will be to maintain continuity

with the policies and policy strategies

established during the Greenspan years.

As a Fed Governor, Ben Bernanke

had spent the peak years of the housing bubble

promoting his mentor's easy money and lax regulation.

Taking over the helm,

he had no idea he would reap what he'd sown.

We have so many economists coming on our air and saying,

"Oh, this is a bubble and it's going to burst."

What is the worst-case scenario if in fact we were to see prices

come down substantially across the country?

Well, I guess I don't buy your premise.

It's a pretty unlikely possibility.

We've never had a decline in house prices nationwide.

- What I think is more likely... - Bernanke should've said,

"It has never declined because it's never had a bubble before."

Robert Shiller's data shows 100 years

of incredibly flat price series followed by, suddenly,

a Himalayan mountain going up very rapidly.

Bernanke is the perfect academic.

He's not looking at house prices.

He so profoundly believes in market efficiency

that there can't possibly be a housing bubble,

so why bother to look for it?

The Bernanke Fed really blew it.

They just... they just didn't see it coming.

Both Bernanke and Greenspan would later maintain

that only a tiny group of experts foresaw the crisis.

But there were many who did,

and were either dismissed as alarmists or ignored.

Some of us were writing then, "Guys this is absurd.

This can't happen. It's going to end in tears."

In the case of housing,

I started to detect bubble proportions in 2002.

That forecast was met with derision.

We worried that encouraging people to borrow money

in the interests of spending it

would come back and haunt us.

All you had to do was crack a history book.

Every bubble breaks.

It's not that I saw something that wasn't there to see.

It was all there for other people to pick up,

but I think there was this sense of comfort

that it wouldn't happen and even if it did happen,

we knew how to deal with the problem.

So you have to understand

academic economists live in an island unto themselves.

These were people trained in mathematics, not in markets.

And trying to apply the mathematics to markets

and to human emotion basically, they stumble.

In the academic models used by the Fed,

debt is not a source of danger.

In fact, in most of these models,

debt isn't even there. In the academic models,

the financial sector isn't even there.

So if it wasn't there, it couldn't do any harm.

And because their intellectual framework

didn't allow for a big crisis to happen,

there were no efforts made to prevent the crisis.

When they got into it,

the whole idea was that we'd soon be out of it.

The problems in the subprime market

seems likely to be contained.

So the magnitude of what was to come down the road

was completely discounted.

And then, at some moment,

people realised they really overextended themselves.

So that what looks like the Great Moderation

has within it the seeds of its own... of its own end.

- Stocks crushed today. - Financials hit really hard.

Bank of America down 40%.

One of the worst days ever on Wall Street.

This is a market driven by fear.

Alan Greenspan told everyone to take a teaser rate,

and Bernanke is being an academic.

He has no idea how bad it is out there.

As the crisis unravelled,

the Fed only dimly perceived its true dimensions.

It was a bank run, but one that bore no relation

to those of the past,

involving not just the banks the Fed was created to protect,

but the hedge funds, investment banks,

and insurance conglomerates

the Fed had allowed to hide from its oversight.

It was a run provoked by the excessive derivatives,

leverage and loans that had flourished in the dark.

Government officials

scrambling to prevent the collapse

of the giant investment bank Lehman Brothers.

So Lehman Brothers wasn't necessarily, you know,

a culprit in and of itself, it was more a symptom

of an endemic way of doing business.

The bill from the Great Moderation

was at last coming due.

A decade of easy money and lax regulation

had created a system only the Fed could save.

Company's called AIG.

It's in big trouble they need money,

which nobody has to give right about now.

The failure of AIG would have meant

a run on the 50 largest banks in the world.

They would not have survived the capital hit.

We saw what happened when one or two

large firms came close to failure.

Imagine if 10 or 12 or 15 firms had failed,

which is where we almost were.

You have to have credit to operate.

Whether we kept rates too low for too long,

that's history.

Confronted with the situation where the heart stopped pumping,

we had to be the pacemaker and make it work again.

American taxpayers woke up this morning

to learn their money makes up a bailout package

the Federal Reserve slammed together to save AIG.

Over the course of the crisis,

the Fed would pump trillions of dollars

in emergency loans to banks, corporations,

and governments around the world.

Though the moves were a logical extension

of the Fed's ideology, they were unprecedented.

Are you committing in this interview

that you are not going to let any of these banks fail?

That no matter what their balance sheet

actually looks like, they are not going to fail?

They are not going to fail.

Bernanke single-handedly stopped the run.

But when his bailout failed to jump start recovery,

the Fed upped the ante.

With interest rates already at zero,

the Fed's only way to juice the economy

was to print more money

with a technique called Quantitative Easing,

or Q.E.

Beginning in 2009, the Fed purchased

over $1.3 trillion of mortgages and debt

from failed lenders Fannie Mae and Freddie Mac.

It was a temporary nationalisation

of the mortgage market.

What followed was the single biggest stock rally since 1932,

when markets faltered in 2010,

the Fed announced a second round: QE2.

If the Greenspan Put had been whispered,

the Bernanke Put was now loud and clear.

Hedge-fund heavyweight David Tepper

raked in a record $7.5 billion by investing in financials.

How did you do it in 09? What did you see?

It was easy. The government said they want the market up,

so I'm going to say, "No, Fed, I disagree with you"?

So I got two different situations:

one, the economy gets better by itself.

The other situation is the Fed comes in with money.

Now up to the point the Fed comes in with money,

the stock market can go down a little bit,

but not that much, because I got a "put."

You got to love a "put,"

especially when the government's issuing it.

Bernanke had saved the system.

Or had he?

It was still riddled with the same bad loans

and institutions too big to fail,

only now spared from the free market's

law of survival of the fittest.

Bear Stearns was supposed to go belly up,

that's what happens,

that's the market correcting their excesses.

And the same thing with AIG and Citigroup,

and go down the list of everybody bailed out.

We just threw enough cash at it

that we papered over the structural flaws.

We're at a point now where the consumer

is in no position to keep borrowing,

banks are in no position to lend.

The banking system is still, in my opinion, insolvent.

It's still broken.

Ben Bernanke has led the Fed

through one of the worst financial crises

that this nation and the world has ever faced.

The Great Moderation began

as an homage to the free market,

but today it could not be further from that ideal.

The two chairmen,

appointed by both Republican and Democratic presidents,

created an economy more centrally planned than ever in our history,

one entirely dependent on ever-cheaper credit

from our central bank.

From 20% to zero,

drops in interest rates bailed out investors

in any number of transactions.

Every time,

the response is more debt fuelling growth.

But while this mountain of debt

provided rocket fuel for housing and finance,

overall growth actually slowed,

as more of our resources and many of our best minds

pursued not medicine nor engineering,

but the zero-sum game of financial speculation.

Creating financial transactions is not production.

It does nothing to your standard of living,

except for a few people who are able to work at a bank,

watch their stock price go up, sell the stock,

and then they have the wealth.

But they have to sell the stock in order to do it.

So understand what happens when stock prices go up,

the same with housing.

It doesn't make us better off.

It helps those people who own stock,

and it hurts people who don't own stock.

You know, tremendous wealth was created in financial markets

which didn't seem to be paralleled

by any great improvement in the economy,

in the incomes of other people.

And so what we see is this increase in wealth

is actually just a redistribution

to those who own wealth,

away from those who don't.

So you have an illusion of wealth.

Certain people at the Fed bought into that.

I've always believed

we underestimate the impact of stock prices

on economic activity.

I don't know where the stock market is going,

but I will say this:

that if it continues higher,

this will do more to stimulate the economy

than anything we've been talking about to date,

or anything anybody else is talking about.

But for all the booms, bailouts,

and easy money, since 2000,

no net jobs have been created in the US

And per-capita growth in the private sector

has been stuck at zero.

So it is not working, and all one can say with respect

to this current crisis is, here we go again.

Ben Bernanke to the rescue. The FOMC announced today

that its zero interest rate would be extended

through the middle of 2013, two years from now.

And yes, it wound up triggering a massive stock-market rally.

What's going on right now is,

the most profound coordinated effort

in the history of mankind

to really promote the financial markets,

promote risky assets, give the drunk another drink.

What the Fed is doing is we push investors

into other kinds of investments

like the stock market.

Bernanke still insists

that money poured into a broken financial system

will trickle down to the real economy.

And I care about Wall Street for one reason,

and one reason only, because what happens

on Wall Street matters to Main Street.

But can a problem created by money for nothing

really be solved by evermore of the same?

The major banks are racking up profits,

and yet lending to small businesses

actually declined in the third quarter.

Our problem is,

we have a very distorted economy.

High-income individuals just had $800 billion

added to their 401Ks,

and are carrying what consumption there is.

Bernanke has been wrong before.

In 2002, he promised that cheap money

would help us avoid a deflation like Japan's.

Instead it gave us a mountain of new debt,

and an economy trapped by 0% rates,

just like Japan's.

And while the chairmen bragged about rising stock prices...

S&P 500 is up about 20%-plus,

and the Russel 2000, which is about small-cap stocks,

is up 30%-plus.

He's been less eager to discuss

the food and gas prices that rose with them.

Inflation falls disproportionately on the poor.

You know, the cost of heating your home goes up,

and you don't have the money, you're in real trouble.

Or the trillions of dollars

his 0% rates are taking from the pockets of savers.

Somebody's paying the price

for low interest rates.

It's you and me who have...

money-market accounts which are earning 0.27%.

Which, by the way,

punishes the elderly and people on a fixed salary.

I mean, I worked to save that money,

and now in one swoop,

the Fed decides I get nothing for that money,

in order to bail out the banks. That, to me, is outrageous.

So here you have a group

that instigates movements and asset prices

to get the economy going the following year.

The Federal Reserve today announced plans

to buy $40 billion of mortgage bonds a month

until further notice.

These policies bring interest rates down,

it affects stock prices, it affects home prices.

If people feel better because their 401k looks better,

their house is worth more, they're more willing to go out and spend.

They don't try and stop that or moderate it in any way,

so they have a bigger collapse the next time,

and a bigger one the time after.

To see that,

and then see it all crash, and to learn nothing?

Quantitative easing is the last desperate gambit

on this game of stimulating asset prices.

You have what degree of confidence

- in your ability to control this? - Hundred percent.

There oughta be a greater degree of humility

on the part of those who are operating,

or pretending to operate, complex systems.

You know, rates can only go to zero.

And at that point,

free money doesn't enable

asset values to keep growing.

And the only tool they have left at their disposal now

really is psychology,

people's belief that the Fed can solve problems.

But mechanically, they can't, at this point.

Can the Fed effectively reduce

long-term unemployment?

As the situation drags on,

it becomes really out of the scope of monetary policy.

Stimulating the economy through monetary policy

really does almost nothing

to contribute to low unemployment rates

or high employment in the long term.

The Fed's lowered from 5.25 to essentially zero

over the last two years.

Unemployment rate's gone from 4.5% to 9%.

So it's clear we can't control unemployment rates

with any precision whatsoever.

Which means it should never be given a mandate

to worry about the economy, to worry about employment.

Because if it has to do that, it will manipulate asset prices,

which is what it does.

It is no longer just outsiders

who criticise Bernanke's efforts

to play the hero for financial markets.

I don't know what the equilibrium rate

of interest is, exactly,

but I'm very confident that it's not zero.

Printing money doesn't produce goods and services.

It doesn't hire people.

It may seem like the right short-term medicine,

but can the cure be worse

than the disease in some cases?

I don't think we want to build the next recovery

on another housing boom.

We should be focused on keeping the purchasing power of money

as stable as possible over time.

And doing that, keeping inflation low and stable,

is the best way we can contribute

to maximising growth, minimising unemployment,

and contributing to the well-being of Americans.

But if we fail at it,

we lose credibility. We lose trust.

Ben Bernanke,

brought our economy to its knees,

has been reappointed. Does this give you hope

for being re-elected governor of New York?

May I remind you, he screwed everybody.

There is no authority in the Constitution

authorising a central bank,

which means there should be no Federal Reserve System.

No.

Ironically, as the calls for accountability mount,

only our independent central bank

can protect the dollar from a dysfunctional Congress

and government debt spinning out of control.

It's our job to guarantee

that whatever happens to the federal deficit and debt,

that it does not translate into inflation.

Each new bailout comes with a catch.

This time,

instead of writing off bad debts

and reforming our banking system,

we've simply swapped spending households couldn't afford

for spending and tax cuts our government can't afford.

Once again, financed by ultra-low rates

from the Federal Reserve.

We can borrow tonnes and tonnes of money

at very low interest rates, and we can continue to do that

for some time.

The problem comes in the long run:

how long is this going to last?

When is this game going to end and how is it going to end?

Free of the gold standard's restraint,

the only limit on our government's ability

to borrow and print

is the confidence people around the world place

in our IOUs.

It's a first in our nation's history,

cutting the country's top AAA rating to AA+.

But how long can a dollar-based system last

if we take that confidence for granted?

The United States can pay any debt it has,

because we can always print money to do that,

so there is zero probability of default.

How can the dollar be anything except the world's

greatest monetary brand, the Coca-Cola of money?

How can it be anything else but?

Well, if you produce enough of these green pieces of paper,

if you throw around your weight too far

as the world's one and only superpower,

bad things happen.

For years the country lived beyond its mean.

As a member of the Euro currency...

As a debt crisis that began in Greece

now threatens all of Europe,

it's clear that easy money

has been no kinder to governments

than it was to homeowners.

And while the US may not be Greece,

the lesson is cautionary.

No nation, however powerful,

is too big to fail.

And then you get the mother of all crises:

big countries going down,

unable to save the system and collapsing.

That's the crisis we have to worry about.

The time to have made good choices

was back in the '90s and the early 2000s.

And we didn't make good choices as a country,

as an American polity.

And now we're faced

with a number of bad choices.

But if we fail to make the uncomfortable choice today,

we're going to create

even more uncomfortable choices down the road.

♪ How many times ♪

♪ Have you heard someone say ♪

♪ If I had his money ♪

♪ I would do things my way ♪

At some point over the last 20 years,

we seem to have lost sight of who we are,

and we were more concerned

with the types of houses we lived in

and the speed of the cars that we drove.

The United States has consumed more than it's produced,

systematically, for at least a decade.

What country, ask yourself, in history,

can do that indefinitely, forever?

The government and the Federal Reserve

are continuing to encourage people to spend their money.

That is not a stable economy.

That's the wrong policy for the future.

What we need to do

is encourage investment and saving.

That'll make it harder for our economy

to grow the way it has in the past,

with consumption being the engine.

So in other words, the US economy

probably won't grow as fast as possible, but that's fine,

if we can learn to be happy with what we have,

as opposed to this system fully designed

around getting people to want more than what they have,

and they're unhappy unless they have that more.

♪ Little they know ♪

♪ That it's so hard to find ♪

♪ One rich man in ten ♪

♪ With a satisfied mind ♪

My generation, the baby boomers,

basically participated in inter-generational theft.

We borrowed from our children,

and in some cases, from our grandchildren.

I hope we don't go as far as our great-grandchildren.

And I don't know one parent who's willing to say,

"Let me enjoy my life at the expense of my children."

But that seems to be what's happening.

Now, the interesting question is,

when you've been on that path that long,

and the imbalances have grown up that big,

what's the process for getting off the bad path

onto a better one?

You've got to create something the world wants,

and that's what we've got to get back to in the United States.

What drives long-term growth is the real world, education,

capital spending, the quality of your workers.

They're the things you should worry about.

There's a myth that's grown up that the United States

is a weak tiger, that it can't produce goods

that people want to sell. Far from the truth.

We're still the largest exporter in the world.

We have the human capital, the knowledge;

we need to just have the incentives.

Somehow we need to go to an economy

that is using its resources,

operating at full employment,

but doing so in a way that isn't reliant

on bubbles any place,

that is a solid,

responsible use of resources.

That means you need to have interest rates

that don't discourage savings.

Less subsidies for housing,

and debt and domestic consumption,

prices closer to...

what they more naturally should be.

So you can get the growth going again in a healthier way,

then the burden of the debt

gradually gets less and less and less.

But of course the transition is bound to be painful,

and then the question becomes:

how much short-term pain

for how much long-term gain?

The end of inflation, that happened because the public

wanted it to happen. This is a democratic country.

What do we want the Federal Reserve to do for us,

for the citizenry?

We want them to provide low inflation

and relatively stable growth.

They can't smooth out all the bumps in the road,

and we can't expect them to. But we can expect them

to do a better job over the future

than they have on average in the past.

It's tempting to believe the crisis is over,

but we may be simply passing through the eye of the storm.

To break free of the cycle of booms and busts,

the Fed must find a new way forward.

So it's a very important crossroads for us.

Will we be willing to support the central bank

as it raises interest rates to levels where savings

becomes something that you value again

so that our society

can really begin to build for the future.

Easy for me to sit here and say "This is how we need to do it,"

but very difficult to implement for anyone.

For the Congress, for the president,

and for the Central Bank of the United States.

More than ever in its 100-year history,

the Federal Reserve holds the future

of our economic system in its hands.

Can the Fed help foster an economy that's built to last?

One not based on stock or housing bubbles,

but on sensible, productive investments

that will enrich not just some of us,

but all?

Or will it continue to offer the empty promise

of money for nothing?