Central banks cannot use interest rates to prevent an asset bubble, such as the late 1990s stock market rally, nor can they raise rates to puncture the balloon, according to the US Federal Reserve chairman, Alan Greenspan.

Bubbles are hard to identify

Such attempts to intervene could damage the wider economy, he said.

"It was far from obvious that bubbles, even if identified early, could be pre-empted short of the central bank inducing a substantial contraction in economic activity, the very outcome we were seeking to avoid," Mr Greenspan said in a speech.

Asset bubbles are hard to identify until they burst, Mr Greenspan insisted, and he called for further investigation.

Defence

"The recent importance of movements in equity premiums and asset bubbles suggests the need to better understand and integrate these concepts into the models used for policy analysis."

Mr Greenspan's speech was seen by observers as a defence of the way the Fed had dealt with the 1990s asset bubble.

"I find it difficult to conceive of an adequate degree of central bank certainty to justify the scale of pre-emptive tightening that would likely be necessary to neutralise a bubble," he said at a central bank symposium in Jackson Hole, Wyoming.

Mr Greenspan is sometimes referred to as the most powerful man in the world because of his control over the US economy.