Greenspan put

The Greenspan put was a monetary policy that Alan Greenspan, during his tenure as chair of the Federal Reserve, exercised in response to financial crises. It was used for the first time with the crash of 1987. Though it was successful in addressing various crises, it became controversial as it led to periods of extreme speculation led by Wall Street investment banks overusing the put's repurchase agreements (or indirect quantitative easing) and creating successive asset price bubbles. The banks so overused Greenspan's tools that their compromised solvency in the 2008 financial crisis required Federal Reserve ("Fed") chair Ben Bernanke to use direct quantitative easing (the Bernanke put). The term Yellen put was used to refer to Fed chair Janet Yellen's policy of perpetual monetary looseness (i.e. low interest rates and continual quantitative easing). In the fourth quarter of 2019, Fed chair Jerome Powell recreated the Greenspan put by providing repurchase agreements to Wall Street investment banks as a way to boost falling asset prices; in 2020, to combat the financial effects of the COVID-19 pandemic, Powell re-introduced the Bernanke put with direct quantitative easing to boost asset prices. In November 2020, Bloomberg noted that the Powell put was stronger than both the Greenspan put or the Bernanke put, while Time noted that the scale of Powell's monetary intervention in 2020 and the tolerance of multiple asset bubbles as a side-effect of such intervention "is changing the Fed forever". While the specific individual tools have varied between each generation of "put", collectively they are often referred to as the Fed put (cf. Central bank put). In late 2014, concern grew about the emergence of a so-called everything bubble due to overuse of the Fed put and perceived simultaneous pricing bubbles in most major US asset classes. By late 2020, under Powell's chairmanship, the perceived everything bubble had reached an extreme level due to unprecedented monetary looseness by the Fed, which simultaneously sent most major US asset classes (i.e. equities, bonds, housing, and commodities) to prior peaks of historical extreme valuation (and beyond in several cases), and created a highly speculative market. By early 2022, in the face of rising inflation, Powell was forced to "prick the everything bubble", and his reversal of the Fed put was termed the Fed call (i.e. a call option being the opposite of a put option).

Overview

Naming The term "Greenspan put" is a play on the term put option, which is a financial instrument that creates a contractual obligation giving its holder the right to sell an asset at a particular price to a counterparty, regardless of the prevailing market price of the asset—thus providing, to the holder of the put, a measure of insurance against falls in the price of the asset. While Greenspan did not offer such a contractual obligation, under his chairmanship, the Federal Reserve taught markets that when a crisis arose and stock markets fell, the Fed would engage in a series of monetary tools, mostly via Wall Street investment banks, that would cause the stock market falls to reverse. The actions were also referred to as "backstopping" markets.

Tools The main tools used by the "Greenspan put" were:

Purchasing of Treasury bonds in large volumes by the Fed, thus lowering the yield and giving Wall Street banks profits on their Treasury books that can be invested in other assets; and Lowering the federal funds rate, even to the point of making the real yield negative, which would enable Wall Street banks to borrow capital cheaply from the Fed; and Providing Wall Street banks with new loans (called short-term "repurchase agreements", but which could be rolled over indefinitely), to buy the distressed assets (i.e. indirect quantitative easing). Repurchase agreements (also termed "repos") are a form of indirect quantitative easing, whereby the Fed prints the new money, but unlike direct quantitative easing, the Fed does not buy the assets for its own balance sheet, but instead lends the new money to investment banks who themselves purchase the assets. Repos allow the investment banks to make both capital gains on the assets purchased (to the extent that the banks can sell the assets to the private markets at higher prices), but also the economic carry, being the annual dividend or coupon from the asset, less the interest cost of the repo. When the balance sheets of investment banks became very stressed during the 2008 financial crisis, due to excessive use of repos, the Fed had to bypass the banks and employ direct quantitative easing; the "Bernanke put" and the "Yellen put" used mostly direct quantitative easing, whereas the "Powell put" used both direct and indirect forms.

Use The Fed first engaged in this activity after the 1987 stock market crash, which prompted traders to coin the term "Greenspan put". The Fed also acted to avert further market declines associated with the savings and loan crisis, the Gulf War and the Mexican crisis. However, the collapse of Long Term Capital Management in 1998, which coincided with the 1997 Asian financial crisis, led to such a dramatic expansion of the Greenspan put that it created the dot-com bubble. After the collapse of the Internet bubble, Greenspan amended the tools of the Greenspan put to focus on buying mortgage-backed securities, as a method of more directly stimulating house price inflation, until that market collapsed in the Great Recession and Greenspan retired.

Side effects In contrast to the benefits of asset price inflation, a number of adverse side effects have been identified from the Greenspan put (and the other Fed puts), including:

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