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Myths of the Greenspan Era

The 18-plus-year tenure of Federal Reserve Chairman Alan Greenspan finally comes to an end today. The buildup to his retirement has become the largest love-fest since Woodstock.

I won't review any of the accolades or criticisms that have become so ubiquitous the past few months. Instead, we are going to take a different tack. Rather than merely adding to the pile of the bon mots, let's discuss the many myths that have developed during Greenspan era:

Myth 1: Greenspan Whipped Inflation

This is by far the most pervasive fallacy of the era. It has added to the Maestro's legend -- undeservedly so, in my opinion. This is probably the myth that's easiest to disprove.

Numerous factors have led to low inflation over the past few decades; none of them have much to do with Greenspan.

To understand where you are, you must consider how you got here. And when it comes to whipping inflation, it all begins with Chairman Paul Volcker.

As the chart of long-term interest rates reveals, inflation was spiking in the late 1970s. The oil embargo of the early '70s started an inflationary spiral that threatened the entire economy. Growth was anemic, and Japan was a growing threat to the industrial heartland. A post-Watergate and post-Vietnam malaise hung over everything. It was not a particularly joyous period in the U.S. When Volcker was appointed Fed chairman, inflation was in the double digits, and growth was stagnant. That combination came to be known as "stagflation."

Fed Chair Volcker aggressively changed the way the Fed attacked inflation. He forced some unpleasant but necessary monetary medicine down the gullet of the American economy.

No helicopter drops for Volcker: The first thing he did was idle the Treasury Department's printing press. By limiting the growth of money supply -- and abandoning interest rate targeting -- he made it clear that no matter how painful in the short term, he was going to get runaway prices under control. Inflation, which had peaked at 13.5% in 1981, was down to 3.2% by 1983. The U.S. has been enjoying the fruits of his labor ever since.

Whip Inflation Then
Volcker did it before Greenspan arrived
Source: Ritholtz Capital

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