ran a front-page headline: "Greenspan to Back Tax Cuts." Both Conrad
220
DOWNTU RN
and Domenici were quoted in the accompanying story with Domenici
confirming that I was about to change my position on tax cuts "because the
surplus is so big."
The hearing room itself was as full as I'd ever seen it; with twenty senators
and their staffs, a wall of cameras, and a substantial crowd. Reading my
statement took nearly half an hour, and afterward I wasn't sure what to expect.
Senator Conrad started by thanking me for what he declared was a
"very balanced" approach—a gracious thing to say I thought, as I hadn't
changed a word after the previous day's conversation.
Then he asked, "As I hear you testifying, you're proposing that we
don't abandon fiscal discipline?"
"Absolutely, Senator," I answered, dancing the little pas de deux I'd suggested
the previous day. I amplified on my views about the continued need
for debt reduction and fiscal restraint.
Then it was the other senators' turn, and for the two hours that followed,
the questioning split sharply along party lines. While both sides had
been proposing a tax cut, the Republicans were clearly the ones thrilled to
hear me bless the idea. "I think we pretty well know where we're going,"
said Phil Gramm of Texas. "The sooner we write the budget the better, and
get on with it!" The Democrats, in their comments, mostly voiced dismay.
"You're going to start a stampede," said Fritz Hollings of South Carolina.
Paul Sarbanes of Maryland chimed in, "It wouldn't be far off the mark for
the press to carry the story, 'Greenspan Takes the Lid Off of Punch Bowl.'
The most vivid complaint was from the longest-serving senator in American
history, Bob Byrd. In his West Virginia drawl, he began, "Now, I'm a
Baptist. We have a hymnal. We have a song in our hymnal, 'The Anchor
Holds.' And I've looked at you through this economic expansion period,
and I've considered you to be a great portion of the anchor. I have listened
to you over the past several years, that we need to pay down the debt, that
is the basic need. I believe that you were right then and I am somewhat
stunned by the fact that the anchor seems to be wavering today."
Remarks like that are the kind people remember. As the hearing ended,
I was optimistic that the ideas I'd set forth—the risks of excessive surpluses,
the glide-path proposal, the notion of a trigger—would in the long run get
221
THE AGE OF TURBULENCE
attention as the legislative process proceeded. But for the moment, I resigned
myself to the idea that my testimony would be politically framed. I later told
my wife, "I am shocked, shocked, that there is politics on Capitol Hill."
The White House was quick to signal its pleasure—President Bush
himself met with reporters that evening to call my testimony "measured
and just right." The major newspapers, too, saw the testimony as political.
"Tax cuts are inevitable and it makes sense for Mr. Greenspan to avoid disagreeing
with the new administration at this early stage," wrote the Financial
Times. The New York Times reported that I was helping the White
House in much the same way as I had supported President Clinton's
deficit-cutting initiative when he first took office in 1993: "Just as his hedged
backing of Mr. Clinton's plan provided invaluable political cover .. . as [the
Democrats] voted to raise taxes, his guarded endorsement of a tax cut today
gave new impetus to the effort by Republicans to push through the
biggest tax cut since the Reagan administration."
Reading these comments, I saw that while politics had not been my intent,
I'd misjudged the emotions of the moment. We had just gone through
a constitutional crisis over an election—which, I realized in hindsight,
is not the best time to try to put across a nuanced position based on economic
analysis. Yet I'd have given the same testimony if Al Gore had been
president.
I
I
did what I could to keep the concept of triggers in play during the weeks
that followed. In congressional hearings in February and March, I repeatedly
drew attention to the tentativeness of all forecasts, and continued
to bang the drum for installing safeguards. "It is crucial that we develop
budgetary strategies that deal with any disappointments that could occur,"
I told a House committee on March 2.
A few days later a small bipartisan group of Senate fiscal conservatives
called a press conference and declared that triggers were the way to go. I'd
met with and encouraged this group, five Republicans and six Democrats
led by Olympia Snowe of Maine.
But triggers, it turned out, never stood much of a chance. Neither side's
222
DOWNTU RN
leadership liked the idea. On the day of my testimony when reporters
asked White House spokesman Ari Fleischer about adding antideficit safeguards
to the president's tax cut, he answered flatly "We need to make it
the permanent law of the land." Soon after, Time magazine quoted chief political
adviser Karl Rove calling the trigger concept "dead on arrival with
this President." And when President Bush formally unveiled his 2002 budget
plan in February it incorporated the $1.6 trillion tax cut just as he had
proposed it during the campaign. The Democratic leadership rejected the
trigger concept as well. "You don't need a trigger if you limit the size of a
tax cut/' said Senate minority leader Daschle. In early March, the Republican
House leadership decisively blocked a trigger amendment from reaching
the floor, and the House passed the Bush tax cut virtually unchanged.
When the debate shifted to the Senate, triggers never drew any additional
support.
In the end, Bush had his victory. At $1.35 trillion, the tax cut that ultimately
took shape was smaller than he had wanted, about halfway between
the Republican and Democratic plans. But it was structured a la Bush as an
across-the-board cut. The legislation embodied only one major feature that
had not been part of the original plan: a taxpayer rebate designed to give
back nearly $40 billion of the 2001 surplus. It mandated that each working
household was to receive up to $600, depending on how much income tax
it had paid the year before. Congress approved the "Bush rebate," as it came
to be called, as a short-term stimulus aimed at jolting the economy from its
stupor. "American taxpayers will have more money in their pockets," the
president declared, "and the economy will receive a well-deserved shot in
the arm."
He signed the tax cut into law on June 7—record time for a major
budget initiative. I was willing to be optimistic about the legislation's effect.
It would work down the surpluses before they became dangerous. And
though the tax cut had not been designed as a short-term stimulus—the
economy hadn't needed one when Bush's people conceived it during the
campaign—it could prove serendipitously to have that effect. The timing
was now right.
My regret that the legislation had passed without triggers, however,
223
THE AGE OF TURBULENCE
was soon to become a lot more intense. Within weeks, it turned out that I'd
been wrong to abandon my skepticism about the ongoing surplus. Those
rosy ten-year forecasts were in fact utterly mistaken.
Even before the Bush rebate checks were in the mail, suddenly and
inexplicably federal revenues plunged. The flow of personal income tax
payments to the Treasury as seasonally adjusted by the Department of
Commerce, started to come up billions of dollars short. The vaunted sur
plus, still going strong when Bush signed the tax cut in June and forecast to
continue for many years, was effectively wiped out overnight. Starting that
July, red ink was back to stay.
Our best statisticians got blindsided by this change; it took budget
experts many months, tabulating tens of millions of tax returns, to piece
together what went wrong. The revenue shortfall was evidently a reflection
of the stock market's broad, ongoing decline. (Between January and
September 2001, the S&P 500 lost more than 20 percent of its value.) This
caused a sharp fall in taxes on capital gains and the exercise of stock
options—a decline far more abrupt than the experts had forecast. Just as
the bull market of the tech boom had generated the surplus, the post-dotcom
bear market took it away.
How could the forecasts have been so colossally wrong? The mildness
of the economic downturn had fooled the tax statisticians into expecting a
gentler drop in receipts. But by 2002, the extent of the collapse was evident
in the numbers. In January 2001, the CBO had estimated total receipts at
$2,236 trillion for fiscal year 2002. By August 2002, that figure had shrunk
to $1,860 trillion—a $376 billion downward revision in eighteen months.
Of that money $75 billion reflected the Bush tax cut and $125 billion the
weakening of economic activity. The other $176 billion, a startlingly large
sum, reflected what budgeters call technical changes—code language for
items that cannot be explained by what is going on in the economy or on
Capitol Hill, such as blown estimates of taxes from capital gains.
T
T
hat September, Bob Woodward came to my office to interview me on
the state of the economy. He was preparing a new chapter for the
paperback edition of Maestro, his bestseller about me and the Fed. I told
224
DOWNTU RN
him I was puzzled by the course the 2001 recession was taking—it was
like nothing I'd ever seen. Following December's sharp break in confidence
and the significant decline in stock prices through the summer, I'd steeled
myself for a marked downturn in GDP. Industrial production was off
5 percent during the year. GDP, however, held steady. Instead of being in
a deep valley, we were on a plateau. (Indeed, it would turn out that the
economy actually eked out a slight expansion for the year.)
The shallowness of the recession looked to be a consequence of global
economic forces that had driven long-term interest rates lower and ignited
a sharp rise in home prices in many parts of the world. In the United States,
homes had increased in value so much that households, feeling flush,
seemed more willing to spend. That, coupled with underlying productivity
growth, appeared to have endowed the American economy with a whole
new degree of buoyancy.
So, said Woodward, trying to sum up, "maybe the story of the economy
this year is the disaster averted rather than the downturns."
"It's too soon to tell," I answered. "Until the whole thing settles down
into a boring pattern, you can't know."
The conversation was not much different from a dozen other background
sessions I'd held with reporters in the course of the summer—
except for the timing. It was Thursday, September 6, just before I was to
leave for an international bankers' meeting in Switzerland. The date on the
airplane ticket for my return was Tuesday, September 11.
225
ELEVEN
THE NATION
CHALLENGED
F
F
or a full year and a half after September 11, 2001, we were in
limbo. The economy managed to expand, but its growth was uncertain
and weak. Businesses and investors felt besieged. The immediate
crises of the first few months—the hunt for al Qaeda suspects, the
anthrax attacks, the Afghanistan war—gave way to the low-grade strain of
coping with domestic security's anxieties and costs. Enron's bankruptcy in
December 2001 compounded the uncertainty and gloom; it touched off a
wave of accounting scandals and bankruptcies exposing the infectious
greed and malfeasance that had been the dark side of the great economic
boom.
At times there seemed no end to disturbing news: the controversy over
campaign finance, the sniper killings in Washington, D.C., the terrorist
bombing of a nightclub district in Bali. In summer 2002, telecom giant
WorldCom collapsed in a cloud of accounting fraud—at $107 billion in assets,
it was the biggest bankruptcy in history.
Then came SARS, the lethal flulike contagion that began in China and
for weeks disrupted business travel and trade. During that period, of course,
the administration was stepping up its attacks on Saddam Hussein, and in
THE NATION CHALLENGED
March and April 2003 the invasion of Iraq and Saddam's overthrow dominated
the headlines.
Behind everything loomed the expectation of continued terrorist attacks
on U.S. soil. In official Washington, especially, it was hard to shake the
feeling of imminent threat: new traffic barriers, checkpoints, surveillance
cameras, and heavily armed guards were everywhere. For me, there was no
more strolling a couple of blocks on the way to work, past TV cameras for
the briefcase indicator; each morning I was driven into the Fed's heavily
guarded underground garage. Visitors to the Fed, though still allowed to
park there, would have to wait as a dog sniffed the car for explosives—the
dog would actually get into the trunk.
There was no bigger question in Washington than, Why no second attack?
Ifal Qaeda's intent was to disrupt the U.S. economy, as bin Laden had
declared, the attacks had to continue. Our society was open, our borders
were porous, and our ability to detect weapons and bombs was weak. I
asked this question of a lot of people at the highest levels of government,
and no one seemed to have a convincing response.
The expectation of additional terrorism affected virtually everything
the government did. And, inevitably, the defensive bubble we'd created to
protect our institutions influenced every decision. In 2002, the new homeland
