More Praise for ECONOMIC PUPPETMASTERS “Larry Lindsey’s remarkable new book is a must-read insider’s account of economic policy for those of us on the outside. Drawing on the insights and world views of some of the leading figures of our time, Lindsey pro- vides a highly readable and entertaining guide to economics from which all citizens, policymakers, and even his fellow economists can profit.” —Robert E. Litan, Director, Economic Studies Program, The Brookings Institution “A riveting look ahead at how those who pull the strings of the world economy will affect our policies and our investments...Refreshing because it is written by a wise and balanced economist who knows enough about what he is talking about to be able to write plainly enough for the rest of us.” —Lamar Alexander, Former Governor of Tennessee and U.S. Education Secretary “Anyone wondering how the world fell into its current financial predica- ment needs to listen to Larry Lindsey. With unmatched clarity and insight, he explains how economies come to ruin and what we can do to help them recover. His book is a sometimes frightening, always fascinating tour of economic decisionmaking at the highest level. In this time of financial tur- moil, policymakers, investors, and voters would do well to listen to his analysis and advice.” —The Honorable Richard Armey, Majority Leader, U.S. House of Representatives “Larry Lindsey has traveled from the ivory tower of Harvard to the White House to the real citadel of power in this world...the Federal Reserve Board. In his new book, he walks us through the corridors of power, not only in Washington and New York, but in Tokyo and Bonn. And he guides us through the even trickier maze of national and international economic policy on the eve of the millennium. [This is] the best book about the 21st cen- tury available in the 20th century.” —James Pinkerton, Columnist for Newsday and Lecturer at the Graduate School of Political Management, The George Washington University Economic Puppetmasters Lessons from the Halls of Power Lawrence B. Lindsey The AEI Press Publisher for the American Enterprise Institute W ASHINGTON, D.C. 1999 Available in the United States from the AEI Press, c/o Publisher Re- sources Inc., 1224 Heil Quaker Blvd., P.O. Box 7001, La Vergne, TN 37086-7001. To order, call 1-800-269-6267. Distributed outside the United States by arrangement with Eurospan, 3 Henrietta Street, Lon- don WC2E 8LU England. Library of Congress Cataloging-in-Publication Data Lindsey, Lawrence. Economic puppetmasters : lessons from the halls of power/ Lawrence B. Lindsey. p. cm. Includes bibliographical references and index. ISBN 0-8447-4081-0 (alk. paper) 1. Economic history—1990– 2. Economic policy. 3. Greenspan, Alan, 1926– 4. Sakakibara, Eisuke. 5. Kohl, Helmut, 1930– 6. Soros, George. I. Title. HC59 .15 .L56 1999 338.9—dc21 98-49785 CIP 13579108642 © 1999 by the American Enterprise Institute for Public Policy Research, Washington, D.C. All rights reserved. No part of this publication may be used or reproduced in any manner whatsoever without permission in writing from the American Enterprise Institute except in cases of brief quotations embodied in news articles, critical articles, or reviews. The views expressed in the publications of the American Enterprise Institute are those of the authors and do not necessarily reflect the views of the staff, advisory panels, officers, or trustees of AEI. THE AEI PRESS Publisher for the American Enterprise Institute 1150 17th Street, N.W., Washington, D.C. 20036 Printed in the United States of America To Troy and Emily, who let Daddy use the computer, even when they had something else to do on it. Contents Foreword ix 1 Masters of the System—Or Its Servants? 1 2 The Contrarian at the Center 20 3 Supply Shocks and Creative Destruction 36 4 The Mandarin 54 5 Mandate of Heaven Withdrawn 80 6 The Dictates of History 97 7 Europe’s Great Experiment 115 8 On a Clear Day You Can See Forever 131 9 An Intellectual Confusion between Supply and Demand 144 10 The Criteria for Successful Economic Management 167 Notes 195 Index 209 About the Author 215 vii Foreword his is a work of contemporary history. The events being de- scribed are continuing, and the global economic landscape is T changing at an even faster pace than we are accustomed to. But the reader will still find the analysis quite current. That is so because the decisionmakers portrayed in this book, and their successors, are driven by a logic that is both historically continuous and inescapable. The contrarian, Alan Greenspan, has seen the economy for which he is responsible turn for the worse since he was interviewed for this book. But both the direction of the economy and his reaction to it were eminently predictable from his comments. Eisuke Sakakibara has seen both Japan deteriorate and bureaucratic power slip gradually from his fellow mandarins. But the underlying power vacuum between elected politicians unskilled in policymaking and bureaucrats who have lost the Mandate of Heaven continues unfilled, to the detriment of both Japan and the world. Chancellor Kohl was thrown out of office in late September 1998, but not after he completed his mission. Europe will be struggling with his legacy—a single European currency—and the deep historical forces that drove him to change Germany and Europe for years to come. ix Economic Puppetmasters x The pages of history write themselves, but that is not the case with a book. I am deeply grateful for the help of many people, especially the subjects. Alan Greenspan not only cooperated in the formal sense of being interviewed, but also provided invaluable insights and lessons over the more than five years during which I was his colleague. He is both an outstanding student of economic history and its shaper. I am also grate- ful to both Eisuke Sakakibara and George Soros for their insights. They were most generous with the scarcest of resources—time. I would also like to thank the entire Kohl family for giving me such a glimpse into their lives and their souls, and especially to Walter Kohl, who made it possible. My deepest thanks are also extended to those who slogged through the early drafts and whose frank comments turned the book into some- thing readable. They include Tim Adams, Dick Alford, Jeff Gedmin, Mark Groombridge, Walter Kohl, Susan Lindsey, John Makin, Allan Meltzer, Tomo Sugita, and Donald Van de Mark. I would also thank the many people whose names adorn the jacket and front of the book for their generous comments: Lamar Alexander, Richard Armey, John Ashcroft, George W. Bush, Lou Dobbs, Martin Feldstein, Steve Forbes, John Kasich, Robert Litan, Gene Ludwig, James Pinkerton, and Will- iam Simon. I was especially fortunate to have outstanding assistants help me manage the entire process. First and foremost, my thanks to Janet Walker, who made sure the trains ran on time during the entire process, even if it meant she had to stoke the engines herself. I would also like to thank Katherine Carothers, Brandon Garson, Frank Goldberg, and Ryan Holston for their research, editing, and fact-checking efforts, and Ryan in particular for his help with the charts. The American Enterprise Institute has been wonderfully support- ive of my writing efforts. Special thanks are owed to Chris DeMuth and David Gerson who have made AEI what it is today—a preeminent think tank. Leigh Tripoli has been the best of all editors with a light but firm touch. Many others at AEI have provided a variety of assistance, includ- ing Virginia Bryant, Alice Anne English, Susanna Huang, Nancy Rosenberg, Stanley Thawley, and Murray White. My deepest thanks to them all. “All service ranks the same with God: With God, whose puppets, best and worst, Are we; there is no last nor first.” —Robert Browning, Pippa Passes, part iv 1 Masters of the System—Or Its Servants? In my country, as in yours, public men are proud to be the servants of the State and would be ashamed to be its masters. —Winston Churchill to a joint session of the U.S. Congress, December 26, 19411 o, this is a global economy? It sure doesn’t look like anyone’s in charge. In America, until recently, we talked of a New Era. Wall S Street continuously set new records, having doubled in the past three years and risen more than tenfold since the bull market began in 1982. For the first time in its history, the United States has had a sixteen-year expansion punctuated only by one short and shallow reces- sion in 1991. The lowest unemployment rate in three decades was coupled with the near absence of inflation. Optimists tell us this is just the beginning—that we have two decades of prosperity ahead and that the Dow Jones Industrial Average is undervalued even at historically high levels.2 Meanwhile, pessimists worry about a break in the market leading to another depression. At this writing in the fall of 1998, the pessimists were looking better. And, once you leave America, there is plenty to worry about. In Asia, we are witnessing what one leading bank’s strategist de- scribed to me as a “train wreck in slow motion.” Japan, the world’s sec- ond largest economy, is officially in recession, with no end in sight. Its banking system is on the brink of collapse. There is talk of $1 trillion in 1 Economic Puppetmasters 2 bad loans on the balance sheets of the banks, with the nation’s insurance companies and other financial institutions also in deep trouble.