Brown Web of Debt The Shocking Truth about our Money System (3rd ed)

Chapter 42 - The Question of Interest

of performance. We have subsidies and financing to support housing programs that make no economic sense except for the property managers and owners who build and manage it for layers of fees.16

Government services may appear to be inefficient because public funding is lacking to do the job properly; but this inefficiency is not the result of a lack of motivation among government workers caused by inadequate “competition.” Clerks working for the government have to compete and perform to hold onto their jobs just as clerks working for private industry do. To the clerk, there is not much difference whether she is working for the government or for a big multinational corporation. It is not “her” business. Either way, she is just getting paid to take orders and carry them out. Beating out the competition by cutthroat practices is not the only way to motivate workers. Pride of performance, a desire for promotion and higher salaries, and a belief in the team project are also effective prods. Recall the Indian study comparing service and customer satisfaction from private-sector and public-sector banks, in which the governmentowned Bank of India came out on top in all areas surveyed.17

Banks that are government agencies would have a number of practical advantages that could actually make them more efficient in the marketplace than their private counterparts. A government banking agency could advance loans without keeping “reserves.” Like in the tally system or the LETS system, it would just be advancing “credit.” A truly national bank would not need to worry about going bankrupt, and it would not need an FDIC to insure its deposits. It could issue loans impartially to anyone who satisfied its requirements, in the same way that the government issues driver’s licenses to anyone who qualifies now. Interest-free lending might not materialize any time soon, but loans could be issued at an interest rate that was modest and fixed, returning reliability and predictability to borrowing. The Federal Reserve would no longer have to tamper with interest rates to control the money supply indirectly, because it would have direct control of the national currency at its source. A system of truly “national” banks would return to the people their most valuable asset, the right to create their own money. Like the monarchs of medieval England, we the people of a sovereign nation would not be dependent on loans from a cartel of private financiers. We would not need to pay income taxes, and we might not need to pay taxes at all . . . .

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Chapter 43

BAILOUT, BUYOUT, OR

CORPORATE TAKEOVER? BEATING THE ROBBER BARONS AT THEIR OWN GAME

“Didn’t you know water would be the end of me?” asked the Witch, in a wailing, despairing voice. . . . “In a few minutes I shall be all melted, and you will have the castle to yourself. . . . Look out – here I go!”

– The Wonderful Wizard of Oz, “The Search for the Wicked Witch”

In the happy ending to our economic fairytale, the drought of debt to a private banking monopoly is destroyed with the water of a freely-flowing public money supply. Among other salubrious

results, we the people never have to pay income taxes again. That possibility is not just the fantasy of utopian dreamers but is the conclusion of some respected modern financial analysts. One is Richard Russell, the investment adviser quoted earlier, whose Dow Theory Letter has been in publication for nearly fifty years. In his April 2005 newsletter, Russell observed that the creation of money is a total mystery to probably 99 percent of the U.S. population. Then he proceeded to unravel the mystery in a few sentences:

To simplify, when the US government needs money, it either collects it in taxes or it issues bonds. These bonds are sold to the Fed, and the Fed, in turn, makes book entry deposits. This “debt money” created out of thin air is then made available to the US government. But if the US government can issue Treasury bills, notes and bonds, it can also issue currency, as it did prior to the formation of the Federal Reserve. If the US issued its own money,

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that money could cover all its expenses, and the income tax wouldn’t be needed. So what’s the objection to getting rid of the Fed and letting the US government issue its own currency? Easy, it cuts out the bankers and it eliminates the income tax.1

In a February 2005 article titled “The Death of Banking and Macro Politics,” Hans Schicht reached similar conclusions. He wrote:

If prime ministers and presidents would only be blessed with the most basic knowledge of the perversity of banking, they would not go onto their knees to the Central Banker and ask His Highness for loans . . . . With a little bit of brains they would expropriate all banking institutions . . . . Expropriation would bring enough money into the national treasuries for the people not to have to pay taxes for years to come.2

“Expropriation,” however, means “to deprive of property,” and that is not the American way. At least, it isn’t in principle. The Robber Barons routinely deprived their competitors of property, but they did it by following accepted business practices: they purchased the property on the open market in a takeover bid. Their sleight of hand was in the funding used for the purchases. They had their own affiliated banks, which could “lend” money into existence with an accounting entries.

If the banking cartels can do it, so can the federal government. Commercial bank ownership is held as stock shares, and the shares are listed on public stock exchanges. The government could regain control of the national money supply by simply buying up some prime bank stock at its fair market price. Buying out the entire banking industry would not be necessary, since the depository and credit needs of consumers could be served by a much smaller banking force than is prowling the capital markets right now. The recycling of funds as loans could be left to private banks and those non-bank financial institutions that are already serving a major portion of the loan market. Although buying out the whole industry would not be necessary, it might be the equitable thing to do, since if the government were to take back the power to create money from the banks, bank stock could plummet. Indeed, if commercial banks could no longer make loans with accounting entries, the banks’ shareholders would probably vote to be bought out if given the choice.

Assume for purposes of argument, then, that Congress had decided to reclaim the whole commercial banking industry, as an assortment of populist writers have suggested. What would that cost on the open

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market? At the end of 2004, the total book value (assets minus liabilities) of all U.S. commercial banks was reported at $850 billion.3 “Book value” is what the shareholders would receive if the banks were liquidated and the shareholders were cashed out for exactly what the banks were worth. Shares trade on the stock market at substantially more than this figure, but the price is usually no more than a generous two times “book.” Assuming that formula, around $1.7 trillion might be enough to purchase the whole U.S. commercial banking industry.

Too much for the government to pay?

Not if it were to create the money with accounting entries, the way banks do now.

But wouldn’t that be dangerously inflationary?

Not if Congress were to wait for a deflationary crisis; and we’ve seen that such a crisis is now looming on the horizon. The next correction in housing prices is expected to shrink the money supply by about $2 trillion. Fed Chairman Ben Bernanke suggested in 2002 that the government could counteract a major deflationary crisis by simply printing money and buying real assets with it. (See Chapter 40.) Buying the banking industry for $1.7 trillion in new Greenbacks could be just what the good doctor ordered.

Bailout, Buyout, or FDIC Receivership?

The government could buy out the banks’ shareholders, but it wouldn’t necessarily have to. Enough bank branches to serve the public’s needs might be picked up by the FDIC for free, just by conducting an independent audit of the big derivative banks and putting any found to be insolvent into receivership.

Recall Murray Rothbard’s contention that the whole commercial banking system is bankrupt and belongs in receivership. (Chapter 34.) Banks owe depositors many times the amount of money they have on “reserve.” They have managed to avoid a massive run on the banks by lulling their depositors into a false sense that all is well, using devices such as FDIC deposit insurance and a “reserve system” that allows banks to borrow money created out of nothing from the Federal Reserve. But that bailout system is provided at taxpayer expense. By rights, said Rothbard, the whole banking system should be put into receivership and the bankers should be jailed as embezzlers.

If the taxpayers were to withdraw the taxpayer-funded props holding up a bankrupt banking system, the banks, or at least some of them, could soon collapse of their own weight; and the first to go

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would probably be the big derivative banks that have been called “zombie banks” – banks that are already bankrupt and are painted with a veneer of solvency by a team of accountants adept at “creative accounting.” Insolvent banks are dealt with by the FDIC, which can proceed in one of three ways. It can order a payout, in which the bank is liquidated and ceases to exist. It can arrange for a purchase and assumption, in which another bank buys the failed bank and assumes its liabilities. Or it can take the bridge bank option, in which the FDIC replaces the board of directors and provides the capital to get it running in exchange for an equity stake in the bank.4 An “equity stake” means an ownership interest: the bank’s stock becomes the property of the government.

The bridge bank option was taken in 1984, when Chicago’s Continental Illinois became insolvent. Continental Illinois was the nation’s seventh largest bank, and its insolvency was the largest bank failure that had ever occurred in the United States. Ed Griffin writes:

Federal Reserve Chairman Volcker told the FDIC that it would be unthinkable to allow the world economy to be ruined by a bank failure of this magnitude. So, the FDIC assumed $4.5 billion in bad loans and, in return for the bailout, took 80% ownership of the bank in the form of stock. In effect, the bank was nationalized . . . . The United States government was now in the banking business.

. . . Four years after the bailout of Continental Illinois, the same play was used in the rescue of BankOklahoma, which was a bank holding company. The FDIC pumped $130 million into its main banking unit and took warrants for 55% ownership. . .

By accepting stock in a failing bank in return for bailing it out, the government had devised an ingenious way to nationalize banks without calling it that.5

The FDIC sold its equity interest in Continental Illinois after the bank got back on its feet in 1991, but the bank was effectively nationalized from 1984 to 1991. Griffin decries this result as being antithetical to capitalist notions; but as William Jennings Bryan observed, banking is the government’s business, by constitutional mandate. The right and the duty to create the national money supply were entrusted to Congress by the Founding Fathers. If Congress is going to take back the power to create money, it will have to take control of the lending business, since over 97 percent of the money supply is now created as commercial loans.

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As Dave Lewis observed, in some sense the big banks considered ”too big to fail” are already nationalized, since their survival depends on a system of taxpayer-funded bailouts. (See Chapter 34.) If taxpayer money is keeping the ship from sinking, the taxpayers are entitled to step in and take the helm. Banking institutions supported by taxpayer money can and should be made public institutions operated for the benefit of the taxpayers.

Some Choice Bank Stock Ripe for FDIC Plucking?

Continental Illinois may not be the largest U.S. bank to have been bailed out from bankruptcy. We’ve seen evidence that Citibank became insolvent in 1989 and was quietly bailed out with the help of the Federal Reserve, and that JPMorgan Chase (JPM) followed suit in 2002. (Chapters 33 and 34.) These are the country’s two largest banks, and they are the banks that are the most perilously over-exposed in the massive derivatives bubble. Recall the 2006 report by the Office of the Comptroller of the Currency, finding that 97 percent of U.S. bankheld derivatives are in the hands of just five banks; and that the first two banks on the list are JPM and Citibank. According to Martin Weiss in a November 2006 newsletter:

The biggest [derivatives] player, JPMorgan Chase, is a party to $57 trillion in notional value of derivatives. Its total credit exposure adds up to $660 billion, a stunning 748% of the bank’s risk-based capital. In other words, for every dollar of its net worth, JPMorgan Chase is risking $7.48 in derivatives. All it would take is for 13.3% of its derivatives to go bad . . . and JPMorgan’s capital would be wiped out, gone. . . . Citibank isn’t far behind – with $4.24 at risk for every dollar of capital, more than double what it was just a few years ago.6

These two banks are prime candidates for receivership, and the FDIC might not even have to wait for a massive derivatives crisis in order to proceed. It might just need to take a close look at the banks’ books. JPM and Citibank were both defendants in the Enron scandal, in which they were charged with fraudulently cooking their books to make things look rosier than they were. To avoid judgment, they wound up paying $300 million to settle the suits; but while a settlement avoids having to admit liability, evidence in the case clearly showed fraudulent activities.7 Banks with a record of engaging in such tactics could still be engaging in them. A penetrating look at their books might confirm that their complex derivatives schemes were illegal

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pyramid schemes concealing insolvency, as critics have charged. (See Chapter 34.) If the banks are insolvent, they belong in receivership.

JPM and Citibank have many branches and an extensive credit card system. Recall that JPM now issues the most Visas and MasterCards of any bank nationwide, and that it holds the largest share of U.S. credit card balances. If just these two banks were acquired by the government in receivership, they might be sufficient to service the depository, check clearing, and credit card needs of the citizenry. That result would also make a very satisfying ending to our story. JPM and Citibank are the money machines of the empires of Morgan and Rockefeller, the Robber Barons whose henchmen plotted at Jekyll Island to impose their Federal Reserve scheme on the American people. They induced William Jennings Bryan to endorse the Federal Reserve Act by leading him to believe that it provided for a national money supply issued by the government rather than by private banks. It would only be poetic justice for these massive banking conglomerates to become truly “national” banking institutions, serving the public interest at last.

Time for an Audit of the Banks and a Tax on Derivatives?

Even if the mega-banks (or some of them) are already bankrupt, we might not hear about it without an independent Congressional audit. John Hoefle writes, “Major financial crises are never announced in the newspapers but are instead treated as a form of national security secret, so that various bailouts and market-manipulation activities can be performed behind the scenes.” The bailouts are primarily conducted by the Federal Reserve, a private corporation answerable to the private banks that are its real owners. Hoefle argues that Congress delegated the money-creating power to the Federal Reserve in violation of its Constitutional mandate, making the Fed’s activities illegal. He maintains:

This is not an academic question, as the Fed is actively involved in looting the American population for the benefit of giant U.S. and global financial institutions, and the global casino. Few Americans have any idea the extent to which the Fed and its system reach into their pockets on a daily basis, and the extent to which their standard of living has been eroded by the financier-led deindustrialization of the United States. . . . [N]ot only do we suffer from an inadequate infrastructure, but we have lost the benefits of those breakthroughs which would have occurred, the

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technologies which would have been developed, had the parasites not taken over the economy. It is the failure to push back the boundaries of science that is responsible for most of our problems today.8

In order to bring the largely-unreported derivatives scheme into public view and under public control, Hoefle favors a tax on all derivative trades. This form of tax is called a “Tobin tax,” after economist James Tobin, who received a Bank of Sweden Prize in Economics in 1981. Hoefle notes that even a very modest tax of onetenth of one percent would bring derivative trades out into the open, allowing them to be traced and regulated; and because derivative trading is in such high volume, the tax would have the further benefit of generating significant revenue for the government.

Dean Baker of the Center for Economic and Policy Research in Washington is another advocate of a tax on derivatives. He points out that financial transactions taxes have been successfully implemented in the past and have often raised substantial revenue. Until recently, every industrialized nation imposed taxes on trades in its stock markets; and several still do. Until 1966, the United States placed a tax of 0.1 percent on shares of stock when they were first issued, and a tax of 0.04 percent when they were traded. A tax of 0.003 percent is still imposed on stock trades to finance SEC operations.9

Baker notes that the vast majority of stock trades and other financial transactions are done by short term traders who hold assets for less than a year and often for less than a day. Unlike long-term stock investment, these trades are essentially a form of gambling. He writes, “When an investor buys a share of stock in a company that she has researched and holds it for ten years, this is not gambling. But when a day trader buys a stock at 2:00 P.M. and sells it at 3:00 P.M., this is gambling. Similarly, the huge bets made by hedge funds on small changes in interest rates or currency prices is a form of gambling.” When poor and middle income people gamble, they usually engage in one of the heavily taxed forms such as buying lottery tickets or going to the race track; but wealthier people who gamble in the stock market escape taxation. Baker argues that a tax on derivative trades would only be fair, equalizing the rules of the game:

Insofar as possible, taxes should be shifted away from productive activity and onto unproductive activity. In recognition of this basic economic principle, the government . . .

already taxes most forms of gambling quite heavily. For example,

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gambling on horse races is taxed at between 3.0 and 10.0 percent. Casino gambling in the states where it is allowed is taxed at rates between 6.25 and 20.0 percent. State lotteries are taxed at a rate of close to 40 percent. Stock market trading is the only form of gambling that largely escapes taxation. This is doubly inefficient. The government has no reason to favor one form of gambling over others, and it is far better economically to tax unproductive activities than productive ones.

. . . From an economic standpoint, the nation is certainly no better off if people do their gambling on Wall Street rather than in Atlantic City or Las Vegas. In fact, there are reasons to believe that the nation is better off if people gamble in Las Vegas, since gambling on Wall Street can destabilize the functioning of financial markets. Many economists have argued that speculators cause the price of stocks and other assets to diverge from their fundamental values.10

A tax on short-term trades would impose a significant tax on speculators while leaving long-term investors largely unaffected. According to Baker, a tax of as little as 0.25 percent imposed on each purchase or sale of a share of stock, along with a comparable tax on the transfer of other assets such as bonds, options, futures, and foreign currency, could easily have netted the Treasury $120 billion in 2000. By December 2007, according to the Bank for International Settlements, derivatives tallied in at $681 trillion. A tax of 0.25 percent on that sum would have added $1.7 trillion to the government’s coffers.

Solving the Derivatives Crisis

A derivatives tax might do more than just raise money for the government. Hoefle maintains that it could actually kill the derivatives business, since even a very small tax leveraged over many trades would make them unprofitable. Killing the derivatives business, in turn, could propel some very big banks into bankruptcy; but the fleas’ loss could be the dog’s gain. The handful of banks in which 97 percent of U.S. bank-held derivatives are concentrated are the same banks that are engaging in vulture capitalism, bear raids through collusive short selling, and a massive derivatives scheme that allows them to manipulate markets and destroy businesses. A tax on derivatives could expose these corrupt practices and bring both the schemes and the culpable banks under public control.

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Chapter 44

THE QUICK FIX:

GOVERNMENT THAT PAYS

FOR ITSELF

The strange creatures set the travelers down carefully before the gate of the City . . . and then flew swiftly away . . . .

“That was a good ride,” said the little girl.

“Yes, and a quick way out of our troubles,” replied the Lion.

– The Wonderful Wizard of Oz,

“The Winged Monkeys”

Atax on derivatives could be a useful tool, but the ideal government would be one that was self-sustaining, without imposing either taxes or a mounting debt on its citizens. As Richard Russell

observed, if the U.S. issued its own money, that money could cover all its expenses, and taxes would not be necessary. If the Federal Reserve were made what most people think it now is – an arm of the federal government – and if it had been vested with the exclusive authority to create the national money supply in all its forms, the government would have access to enough money to spend on anything it needed or wanted. The obvious problem with that “quick fix” is that it would eventually produce serious inflation, unless the money were siphoned back out of the economy in some way. The questions considered in this chapter are:

yHow much new money could the government put into the economy annually without creating dangerous price inflation?

yWould that be enough to replace income taxes? How about other taxes?

yWould it be enough to fund new and needed projects not currently in the federal budget, such as sustainable energy development, restoration of infrastructure, and affordable public housing?

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