NBTA 2008.
Thank you for attending this tears NBTA in Los Angeles. The event brought together a record crowd of over 6,400 travel buyers, agencies, airlines, and technology providers. During the Wednesday morning general session, TRX President & CEO Trip Davis delivered insights into the realities of the information age and the impact on the travel industry through an introduction of Dr. Alan Greenspan. He also conducted a one-on-one interview with Dr. Greenspan.
Transcript from Presentation and One-on-One Interview
Trip Davis (TD): Good morning. We’ll get warmed up for Alan Greenspan with a few numbers. We’ll go right to the slides and I’ll get my clicker here. 1.4 million, each minute. 1.4 million new searches are initiated on the internet through sites like Google. 1950’s two to three million. 2000 two to three billion. These numbers represent the daily trading volume on the
In the summer of 1987 he took a personal phone call from President Reagan with a job offer. To be the chairman of the board of governors of the federal reserve system. He accepted the offer. Having run his economic consulting firm in
TD: Welcome. Alright, we’ll start personal first and then we’ll get to the heart of the matter that I think everyone wants to talk about. Let’s talk about the early days of music and data, and you really were a data jockey as a kid.
Alan Greenspan (AG): I was indeed.
TD: What was it that excited you? What kind of data were you after?
AG: Well, my major interest was baseball batting averages, which meant I learned fractioning very well except when it was more than point four because very few batters hit over 400. So I was knowledgeable about all the variations going down to zero and really not so much on the way up. But I filled it in in later years.
TD: Excellent. So how did this affinity for math turn into helping you later on in
AG: Good question. The answer is not clear to me after all these years. But what happened was that I realized that while I was originally a good amateur musician, I was average. And for those of you who remember Stan Getts, I had to sit next to Stan Getts when I was 16 and he was 15 and it discouraged me to no end. So I really attribute to him the major economic decision of my life. After being a professional musician for two years to decide to go back to college and since I was always interested in numbers, I got into statistics and economics and I just kept moving.
TD: There you go. We’ll move to the high hard topics, what do you think? Oil, the travel industry. What’s happening and how should we look at it?
AG: Well, oil is a very complex issue and I think it’s necessary to disaggregate what the problems are. There is at this stage a long term up trend in the price of crude oil, and the reason is not that there is an inadequate amount of reserves in the ground. Indeed if you track actual oil consumption and reserves, they both are moving up parallel. It’s not that they’re looking or finding new reservoirs so much, is that technology has been awesome. They squeeze a little drop of oil out of anything. But with that very substantial upsurge in consumption and in reserves, productive capacity to produce crude oil, you need a drill, the infrastructure that’s involved in producing crude oil, has barely budged and therefore the long term buffer between consumption on one hand and productive capacity have gotten narrower and narrower. And as in oil commodities, when that begins to happen, prices begin to move. Then an extraordinary thing happened. Really 2000, a little later than 2000, sorry 2005 would probably be the critical period, the financial community became aware of this long term trend, and because of the extraordinary infrastructure that had been built up in finance, we had a veritable explosion of contracts which over the counter market, not traded in the exchanges specified means by which individual financial people could gain control over inventories of oil by effectively instituting a contract. But remember those contracts were bilateral. If you are buying a claim to oil, somebody must sell it to you. And in the beginning the financial community kept bidding up the price and they were getting no offers. Eventually the holders of what is now a five billion barrel private inventory of oil around the world is then selling contracts; going ...?.. against the investment communities ..?… And although technically speaking that $5 billion barrels was owned by the producers, the warehousers, the consumers, the field operators. A significant and growing part of that was being held in escrow toward the investment communities or the ultimate owners. And what began to occur was pressure for the producers and others to rebuild their inventories to the level that they consider necessary and it was that that began to move price level up. So at the moment, we should say at the peak, at well over $140 a barrel, what we had was a very substantial net claim from the investment community. This is good, not bad, in the sense that it drove up the price sooner than it would have otherwise occurred, and as a consequence, that consumption went down sooner than it would have otherwise, and pretty quickly indeed. And the result of that is that the ultimate peak, at least intermediate peak in oil prices, that peak was cut off by the speculation. So what we have had is essentially first a big surge with investors, but unlike the long term trend which is continuing to rise because the investment is inadequate and the reason for that, is that remember that most of the oil is owned by Middle East producers or nationalized oil companies who move the revenues from the oil basically through domestic needs of their societies and the result is that this trend is going on inexorably. And so when effectively we had a very large net long position on the point of the speculators, if you want to put it that way, or investors, that at some point had to come to an end because remember that if the speculators are net long in future contracts, the producers must be net short. And finally the price got to a point where a very significant proportion of the investment community said that’s enough, I’ve had it, it looks good to me. And although the data are not readily available because it’s a long way, I would not be surprised to find that the major part of this downswing we’ve been seeing, is only the speculators unwinding, with some short terms issues involved with respect to slowing oil consumption but it’s fundamentally the switching from net long basically to neutral.
TD: And how about the demand profile in
AG: The problem with the growing demand in Asia is that unlike what’s happening in the developed world, especially in the United States, higher crude oil prices is not dampening consumption because what they do is very heavily sectionalized product demand especially in China and India and elsewhere and as result, where you would expect higher oil prices consumption would flatten out, it isn’t particularly flattening out in the developing world. Now the subsidies are beginning to break down because they’re becoming very expensive in physical cost but still this is making it a bigger problem than it would be if price was allowed to do its thing.
TD: Looking at the dampening affect that we’ve seen
AG: Well, the problem is, is that I think I can say with fairly strong conviction that the underlying long term trend of crude oil is rising, but I don’t know, nor do I know any analytical way to know where that level is, what part is that and what part is the speculative premium. What I’m reasonably certain of is that the speculative premium is coming down fairly dramatically at this stage, and the consequence you can see. I mean with the decline in gasoline prices here, we’re beginning to see consumption beginning to move a little bit. We’re beginning to see an opening up of wallets, so to speak, and the very significant dampening affect of higher oil prices, both gasoline, home heating oil and the like, is beginning to ease here. And it’s being reflected in the marketplace as you can see. But, the long term problems are there and you can take, I think reasonably short comfort from the recent trend in oil prices, it’s not a long term trend.
TD: That’s pretty profound and pretty substantial for us to consider. As we look at the corporate travel industry, what do you think that means over time and long term to the cost of doing business?
AG: Well, the corporate travel industry as I see it, is fundamentally moving people around, and one thing which is really quite amazing in the post World War II period, and especially since the end of the Cold War, is the extent to which globalization has expanded. What it really is, is you know in economics we talk about the division of labor and as people begin to specialize you begin to move into other industries and get bigger and bigger, and what you can literally see is the force of business moving beyond sovereign boundaries. For example, the actual about of marketable assets held for external account by all countries in the world is going up very much more rapidly in world nominal GDP and it’s true in all various aspects of globalization. Things are dispersion, big dispersion and it means that people have to move. The only thing that is working counter to that is the rising technology of video conferencing. But when you look at it and if you participate in it, as I’m sure a lot of people here obviously have, it’s got an impossible barrier to overcome. One is that it still requires time to go up to the satellite and down, and you can’t have the type of interactive conversation in a video conference that you can have and do that, the interaction that goes on within the particular organizations.
TD: Despite the fact that you’ve delivered speeches around the world.
AG: Nobody interrupted me which was a real issue. But you know, there is something even more important. All the historic evidence over the generations indicates that people want to be with people. There is no substitute for sitting and talking to somebody. This conversation would be quite different if I were sitting in some obscure place in
TD: How about the micro economics of the airline business and as it relates to moving people around and what we should expect to look for.
AG: The airline business generally is clearly energy driven. If you look at the normal airline, they don’t own their planes. They hire pilots and personnel for both in-flight and non-flight. And it turns out that fuel costs are the real major variable in their underlying cost and profitability structure. And you can see the pressure now, it’s just extraordinary with the price of jet fuel moving up at a fairly rapid pace. And there are long term changes going on. There’s a lot of new technologies on jet engines and turbo diesel and the like which are going to bring fuel efficiency down, and there’s been an awful lot of waste in jet fuel when the price of crude was say at $20 a barrel because people would sit on the runway with the engines running, and a lot of airlines have found very recently that a linear programming will get you saving a lot of things if you think about actually what your fuel consumption ratios are. But there is no getting around that you’re going to need liquid fuel for the indefinite future to get things up in the air and moving. And whether they develop a bio-diesel or whatever is hard to say but what is reasonably certain at this stage is the price of jet fuel will stay significantly elevated from where it was 5-10 years ago. And you can see the impact now going beyond the airlines and business travel, jet charters are off 15-20% from a year ago, and one of my friends have told me that whereas previously if you tried to charter a jet for business purposes a year or so or two years ago, you would just pay the price that was asked and you were lucky to get a piece of equipment. Now with demand down quite significantly, all that sort of hyper, because remember, one of the obvious fallouts from 9/11 was the move towards private business aircraft and even now orders were huge, they’re beginning to slim down and beginning to move a little market share around the world. But what’s basically involved here is the issue of fuel costs and my suspicion is that when you get prices up at these levels, a surge of interest in finding ways around it becomes awesome. You can’t forecast what’s going to happen because there are millions of people trying to make a profit off the fact that oil is a very heavy burden and anything you can do in the capital goods market and equipment to get rid of it is a major move. I think you’re going to find –
TD: It takes time.
AG: Yeah, it takes time but we’re going to get very significant fuel efficiencies in jet aircraft and I think they’re also going to be constructed in ways which maximizes on efficiency of fuel. And then somewhere along the line we’re going to be getting bio diesel. Remember, jet fuel is basically kerosine. So over the longer run things look extraordinarily positive, especially if we fend off protectionism which will smother the growth in globalization. The thing which is most positive for the longer term as far as business travel is concerned is globalization and the dispersion of organizations around the world and customers around the world and you can’t handle that only on the telephone. That 19th century technology. So my own guess is that trend in business travel is up. It’s going to get more costly, it’s going to get more difficult, there’s going to be a lot more friction between the purveyors of transportation and those who’d like to take it, but business is inexorably going to rise.
TD: It seems as though if you look at the nature of business and the ability for individuals and humans and corporations to respond, that’s what we’re witnessing. So you might have some reductions in capacity, you look at the auto industry, very aggressive and painful changes but at the same time, people are respond and it’s the nature of humans to do that. And you’ve talked a lot about that and it’s really a belief of yours.
AG: Oh yeah. I always argue that you cannot forecast innovation. If you could, it wouldn’t be innovation. And I go back and look at what I could sort of anticipate when I was young, and I never envisioned television. When I was a kid, the thought that there’d be television, I was amazed when I was a child at radio. Where did these waves come from, you know, all this invisible stuff. They didn’t know about radio waves in the 15th century. There’s huge things occurring out there which we haven’t a clue about, and when you have economic incentives that the price of jet fuel is creating at this particular point, do not venture a pessimistic view as to how they’re going to get around it. They will. And a lot of people will make a lot of money in doing that, and that’s what good about our system.
TD: I like the term you wrote about worldwide entrepreneurial stirring based on the nature of humans to adapt and to innovate as well as the rule of law. Talk a little bit about that and what that means to us.
AG: I’ve often been confronted with people who ask me, how do you know where the growth is going to be, in what countries 15 years from now, 10 years from now? And they usually expect me to talk about fiscal policy, monetary policy, macro this. And I say, no. It fundamentally in my judgment depends on the rule of law. When you have a society which has got rules which essentially protect property rights and especially if the people in the society believe them, they are willing to take liquid assets and put them into fixed physical assets which are not capable of being reversed individually. And the only reason you would do that is if you believed that you owned it and that you would get your money back with a profit. One of the most extraordinary events in recent years is China has managed to convey that even though if you look at their constitution, you cannot own land in the rural areas. They do have some form of urban property rights but it’s a mixed case. But they have managed to indicate to the foreign investment community that their money is safe, will be returned, and they’ll make a profit. As soon as that general view changed within the society, foreign direct investment which had been zero prior to 1980, and $4 billion in 1991 is now $80 billion a year. And you can see it country by country. You can see it in
TD: Fascinating. We think about data, we think about like you say the economic factors, and that’s usually where people think your head will go and the answers are. A lot of the underpinnings of your study and your work and your philosophy is about human nature and the fear and the euphoria that goes on in markets, and clearly you’ve coined some terms in that regard. Talk about fear and euphoria and what that means to business.
AG: Well, we talk in terms of how you forecast. I was brought up by building econometric models and we put in all sorts of numbers and data and the like, and it forecast poorly, and that’s an optimistic statement. After a while you become aware that there is a missing variable in those equations and it’s the state of human psychology. Under certain conditions which are technically low real interest rates, stable prices, property rights, people tend to build up a degree of optimism about reaching for the future which is self reinforcing and often gets from rational to clearly questionably rational or otherwise. And finally at some point people extend the future expectations to such a level which is far beyond anybody’s capability of really having reliable judgment that that is indeed how the world is going to look. And it turns on a dime, and you switch from a state of euphoria characterized by high stock prices, very narrow risk premiums, cost of risk is virtually negligible, and virtually overnight you swing to primordial fear. And it’s not a rational process but it is innate and built into us and as a forecaster I don’t care whether it’s rational or not analytically, I care whether it is systematic and basically forecastable in that sense. And the answer is it is. Because we’ve gone through cycle after cycle, we always complain, while we should do something to stop them, but we can’t. It’s in our nature if you stop us in one place, we’ll find another place to go to be overly exuberant. And the result of that is that we have had and always will have periodic financial crises. There is no way to avoid it given human nature. To be sure the financial crises will differ from one time to the other they rarely repeat the specifics but they all have the same characteristic first of years of driving risk to extraordinarily cheap levels followed by an abrupt awareness which is what a crisis is. It’s an unanticipated event which causes the whole thing to go in reverse and then it starts all over again. And this is something we’re going to have to live with because while there have been many philosophies over the generations which talked about the perfection of the human species; in fact, Carl Marx’s ..?..… which is the base of communism is actually a very thoughtful analytical piece based in part at least on the assumption of perfectibility of the human race. What we’ve found to our chagrin especially during World War I is that we are not perfectible and we don’t change. The level of intelligence, if you read Aristotle, has not changed since then. And you read the novels of ….. recent reviews, people behave, plots are the same, the emotions are the same. There’s something that is innate in us. What I find remarkable is how could we come this far with that flawed structure?
TD: The particular cycle that we’re in now is deeper than many people thought it would be, deeper than you thought it would be.
AG:Yes, indeed.
TD: The other aspect, certainly energy is a key driver and in the financial services arena and the mortgage situation is certainly personal for all of us here. Talk a little bit about the financial services and debt markets and the mortgage situation.
AG: I think the best way to look at the crisis, it was an accident waiting to happen in the sense that we had several years of continued decline in the price of risk. And we’ve seen this periodically. This is the euphoria stage of the cycle and we got down to the point whereas I try to explain part of my book I wrote a year ago which went to press from our point of view before the crisis began, is that you could see that risk was being extraordinarily under priced, but it remains under priced for years in historical databases and we can go on for four or five years and basically say this is not possible, but it stays there. And eventually something had to give. What gave us the weakest link in the international system which was essentially secure ..?.. sub prime mortgages. Sub prime mortgages, if there was no securitization, would have never gotten outside the
TD: Because they could be resold, right…?
AG: Yes, you could package them and be resold and a very substantial part was sold abroad. And the result is that a lot of very sophisticated hedge funds and investment banks proceed with the security which was a security which was backed by pools of sub prime mortgages in the United States which because of the sub prime had an inordinately high yield but because home prices were still rising, delinquency rates and foreclosures were very low for sub primes, and these very sophisticated investors say this is like shooting fish in a barrel, a high rate of return with very little risk. It wasn’t some group of individuals who didn’t know what they were doing. These were people who thought they were taking advantage of a market opportunity, and then of course home prices began to flatten out and delinquencies took off and the rest, in a sense, is history. But what is different about this particular one, as I point out in many places, is that this is a once in a century type of event. This is not like numerous events of crises that show up every decade or so. They were largely so-called liquidity crises which central banks flooding the short term market with credit they could assuage. This is not that because when you put in both the Federal Reserve, the Bank of England, European Central Bank, flooded the developed markets with liquidity and it had some affect but it wasn’t until we began to guarantee the liabilities, and first Baer Sterns and then implicitly Freddie Mac and Fannie Mae, until we started to do that, the markets respond which is an indication that it’s a solvency issue, not a liquidity issue. There is a general fear of default, and that is still out there. Now the very early signs of change are beginning to emerge. I notice for example the critical issue is even though this crisis has gone far beyond home mortgages originated in the United States, it is nonetheless the case that the underlying collateral for mortgage backed securities around the world is the amount of equity in homes financed by U.S. mortgages, especially sub prime and so-called …?… and Jumbo and a few of the other variations. That means that as home prices fall, that that equity begins to squeeze and raises questions about the whole international financial system. Well, as you know, prices came out yesterday and show that over a year basis were over 16% which is the largest ever, but what I found very peculiar about the press is that if you seasonally adjust these data and look at them, the prices are going down like that accelerating but very recently they’ve started to turn. Not up, but the rate of change has slowed. And the figure for many which was what was published yesterday is actually somewhat good news. It is suggesting very early on that we may at least be beginning to see a slow down in the rate of decline. And if this happens, the number of homeowners in the
TD: How long does this thing actually have?
AG: That’s the tricky question. The problem basically is that the reason home prices are going down in the
TD: You can see it. We might not be able to see it yet.
AG: The problem is it’s very tough to pinpoint the time. I’d say if the normal population growth and household formation holds up reasonably well, we do know that the rate of inventory liquidation is bound to accelerate as we get towards the end of this year and maybe certainly well into 2009 before we hit bottom. But we don’t have to hit bottom for the crisis to be over, we just have to have rates of change beginning to mold so that the investment community can foresee what is likely to emerge in the same sense that as I said in the beginning, the investment communities looking at the oil market and trying to project it. As soon as they can get clarity on where the outlook is, the markets begin to stabilize. We’re not there yet.
TD: Because the mortgage topic as well as the price of gasoline are such personal topics, they’re consumer topics, and like you say this isn’t a once-a-decade experience, and we happen to be in an election year. We’re not going to talk about the candidates, right? That’s fair. But in terms of the voter perspective, the consumer perspective, what do you think – back to human nature, that we/they will think about this year, as we get into later this year knowing that this is sort of a protracted economic situation?
AG: I wish it were otherwise but campaigns for presidency of the United States, of which I have been involved in many, really rarely if ever hit on what the really crucial issues are. The big issue which is a huge problem no one even wants to look at is the fact that Medicare is a major problem which will confront the next president. Maybe “the” most important issue. And the problem essentially is that because of the baby boom generation there is an inexorable doubling of the number of retirees by the next 20-25 years. And at the moment the trustees of the Medicare, the Medicare trust fund trustees are estimating that because of the huge increase in the number of retirees at the existing entitlement, if you don’t raise taxes you will have to cut Medicare benefits by half. Now you can’t raise taxes enough to avoid some cut in benefits, and nobody wants to talk about cutting benefits although everybody who has looked at the data says it’s inevitable that we will come in that direction. And nobody wants to talk about it. My own view is I know how it’s coming up. Eventually we’re going to find that we cannot afford the physical resources which are involved in the size of the medical system that it’s going to have to exist because of the size of the population, and as best I can judge we’ll end up with a vast proportion of the people in the audience with very high co-payments, with Medicare being essentially focused on those who are at least capable of meeting their own requirements. And that’s where the politics, demographics and economics of this country say we have to go. There isn’t another really significant alternative. What the campaign would be about is new initiatives here, this type here, problems of all things except don’t mention that lady in the closet.
TD: We’ve got a couple minutes left. Looking forward 20 years, let’s talk about the longer term forecast and your opinions there.
AG: Well, in the same context I mentioned before about the rule of law, it matters. If we presume in the United States that we will continue as we have with the constitution and a really extraordinary political and social system that’s developed in this country, and you look at productivity growth over the generations, as part of writing the final chapter of my book, I had to really look at the data closely and it’s fascinating how stable productivity growth is in the United States. Despite the fact we have huge surges, the latter part of 19th century you have the telephone, telegraph, electricity, you don’t see it. One of the reasons is it takes a long time for innovation to become applicable. It took a couple of decades before half of industry was electrified once we had electricity. And as a consequence of that, you can’t anticipate what the future is. So my general view is if a trend has been remarkably stable since say post Civil War period, I see no reason why it won’t continue to do so. We can’t anticipate the innovations for reasons I said previously but we’re very likely to be that. So if you take the output per hour and the demographics which are pretty much locked in at this stage, you come up with the
TD: I think that’s our cue. Thank you Dr. Greenspan. Well done.