The Role of a Central Bank in a Bubble Economy
![handle is hein.journals/cdozo18 and id is 1071 raw text is: THE ROLE OF A CENTRAL BANK IN A
BUBBLE ECONOMY
Geoffrey P. Miller*
[H]ow do we know when irrational exuberance has unduly esca-
lated asset values, which then become subject to unexpected and
prolonged contractions as they have in Japan over the past dec-
ade? And how do we factor that assessment into monetary pol-
icy? We as central bankers need not be concerned if a
collapsing financial asset bubble does not threaten to impair the
real economy, its production, jobs, and price stability. Indeed,
the sharp stock market break of 1987 had few negative conse-
quences for the economy. But we should not underestimate or
become complacent about the complexity of the interactions of
asset markets and the economy. Thus, evaluating shifts in bal-
ance sheets generally, and in asset prices particularly, must be
an integral part of the development of monetary policy.
- Alan Greenspan**
[R]egrettably, history is strewn with visions of... new eras
that, in the end, have proven to be a mirage. In short, history
counsels caution. Such caution seems especially warranted with
regard to the sharp rise in equity prices during the past two
years. These gains have obviously raised questions of sus-
tainability .... Why should the central bank be concerned about
the possibility that financial markets may be overestimating re-
turns or mispricing risk? It is not that we have a firm view that
equity prices are necessarily excessive right now or risk spreads
patently too low. Our goal is to contribute as best we can to the
highest possible growth of income and wealth over time, and we
would be pleased if the favorable economic environment pro-
jected in markets actually comes to pass. Rather, F.O.M.C. has
* Professor of Law, New York University and Chairman, New York University Law
School Center for the Study of Central Banks. Some of the research for this paper was
conducted while the author was a Visiting Scholar at the Bank of Japan, May-July 1995.
The views expressed herein are solely those of the author, and do not necessarily reflect
the views of the Bank of Japan or any of its officials. I would like to thank the high-level
present and former officials in the Japanese government who generously agreed to be in-
terviewed for this research on an off-the-record basis; their input has been invaluable. I am
indebted to Peter M. Garber, J. Mark Ramseyer, Frank Upham, and Curtis Milhaupt for
helpful comments, and to Hideki Kanda for being a friend and mentor throughout.
** Alan Greenspan, Chairman of the Board of the Federal Reserve System, The Chal-
lenge of Central Banking in a Democratic Society, Remarks given at the Annual Dinner
and Francis Boyer Lecture of The American Enterprise Institute for Public Policy Re-
search, Washington, D.C. (Dec. 5, 1996).
1053](ViewImageLocal?handle=hein.journals/cdozo18&div=51&collection=&method=preview&ext=.png&size=3)
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The Role of a Central Bank in a Bubble Economy
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