Greenspan's blindness: the former Fed chief seems oblivious to his role in the housing bubble, the financial crisis, and the recession.

• Author: Horwitz, Steven
• Position: The Map and the Territory: Risk, Human Nature, and the Future of Forecasting - Book review

The Map and the Territory: Risk, Human Nature, and the Future of Forecasting, by Alan Greenspan, Penguin Press, 388 pages, $36

If we saw a dramatic rise in traffic accidents in Manhattan during lunch hour, a traffic light malfunction would be a much more plausible explanation than a sudden outburst of irrationality among New York drivers. And if the lights

were all stuck on green, the resulting accidents could hardly be blamed on the drivers; they were responding rationally to an erroneous signal.

Similarly, you can understand the so-called "irrational exuberance" of the years preceding the financial crash of 2008 as a rational response to the incentives created by the Federal Reserve Bank's artificially low interest rates. Unless you are Alan Greenspan, the man who chaired the Fed from 1987 to 2006.

In Greenspan's new book, The Map and the Territory, the once-lionized monetary "maestro" never considers the possibility that his own actions contributed to the housing bubble and ensuing financial collapse. Instead he focuses on government subsidies for housing, including implicit guarantees for government-sponsored mortgage lenders and congressional mandates that "historically underserved" populations get in on the home ownership binge.

This analysis is accurate as far as it goes. But the housing binge would not have been possible without the cheap credit created as a result of Greenspan's low interest rates.

Greenspan blames an influx of foreign savings, combined with irrational herd behavior, for driving up housing prices and creating the risky financial instruments, such as mortgage-backed securities and their derivative products, that were at the center of the financial collapse. But he does not so much as raise the possibility that the Fed's expansionary policies had something to do with driving the inflation-adjusted federal funds rate--the rate that banks charge one another for short-term loans of reserves--below zero for almost two years.

Greenspan, like many behavioral economists, is quick to blame market actors for irrational choices rather than asking whether policy makers have distorted signals or incentives in ways that lead rational actors to bad outcomes. Rational responses to bad signals result in patterns of economic behavior that are ultimately unsustainable. The savings needed to support the level of investment in housing simply did not exist, thanks to policy-induced distortions in interest...