How the Banks Use Government
by
Michael S. Rozeff
Recently
by Michael S. Rozeff: U.S.
Military Defeated in Vietnam
There are many
ways in which human beings have created means of exchange (currency,
means of payment, money) that have worked successfully over long
periods of time. There is the way that Menger explained, through
discovery of a highly marketable commodity. This is the way in which
precious metals gained ascendancy. Another way is through banks
that have intermediated short-term (90-day) bills of exchange
and provided bank notes. This was common for many centuries. Another
way is through the deposits of goldsmiths at a bank in exchange
for certificates that circulate. Fourth, governments have created
tax certificates good for paying taxes, and these have functioned
as means of exchange. We should not forget also that there have
been many commodities that have been used as means of exchange.
This is not
an exhaustive list. It is enough to suggest that the private economy
is perfectly capable of generating a variety of means of exchange
that solve the economic challenge of low-cost exchange without barter.
It is also enough to suggest that even a government can devise a
legitimate means of exchange without imposing an illegitimate
forced currency, that is, legal tender.
None of these
listed methods can cause an economy to malfunction, properly
used. None can cause unemployment, properly used. None of
them ever has, not unless banks or governments broke certain
rules that fundamentally changed the means of exchange into
something illegitimate or improper or not fitted to the purpose
and to the economizing behavior of human beings.
I have particularly
in mind such improper acts as the following:
- Governments
taxing freely-developed means of exchange so as to disadvantage
them. - Governments
forcing citizens to use a currency by legal tender restrictions. - Banks issuing
notes against assets that were not short-term or were not liquid,
assets such as term loans, real estate, stocks and mortgages. - Banks using
financial leverage, usually excessive, to borrow money to buy
illiquid and/or long-term assets and mixing this activity with
the issuance of notes against short-term self-liquidating bills. - Banks rolling
over short-term bills and improperly converting them into longer-term
obligations. - Governments
making their own bonds the basis of issuing bank notes. - Governments
insuring bank deposits when the banks were using the funds to
buy long-term and/or illiquid assets. - Governments
setting up central banks with special privileges such as making
their notes legal tender. - Central
banks with the power to bail out illiquid banks and other financial
institutions that have purchased illiquid assets and become insolvent. - Governments
and central banks that favor large banks. - Central
banks with the power to purchase government bonds with its government-forced
means of payment. - Governments
that seize gold, outlaw gold contracts and issue irredeemable
money. - Governments
that issue certificates or bills of credit far in excess of what
they can collect in taxes. - Governments
that prevent or restrict their citizens from buying foreign currencies
or foreign assets. - Central
banks with a monopoly on note issue and the concurrent phasing
out of notes issued by individual banks.
This too is
not an exhaustive list.
Here we have
the opposite situation. Every one of these improper and illegitimate
activities has historically been used. Not only can they
cause large economic problems, they have caused such problems.
Even prior
to the Great Depression, thousands of banks failed in America. This
was not because they were unit banks or undiversified, it was because
they had invested in long-term illiquid assets, such as farm land
and mortgages tied to farm land, whose prices declined. They declined
because they had been driven up by World War I and the accompanying
excessive creation of means of payment by the central bank (the
FED). During the 1920s, the FED created funds that flowed into stocks
financed by loans issued, improperly, by banks, since stocks are
long-term assets. History shows again and again that banks cannot
safely issue redeemable bank notes against long-term assets. Indeed,
the stock market crash in 1929 triggered bank failures in America
and worldwide.
The large-scale
bank failures in the 1930s caused a currency famine, much as in
1893, but the banks in this case did not create a currency of clearinghouse
certificates as they had in 1893. The FED now controlled base money.
The result was a large-scale deflation and depression.
With the private
creation of currency by proper means and a proper system of governing
law, this could not have happened.
When banks
employ improper practices and when governments make improper laws
that shape the banking industry and the entire monetary system,
what are the results? We get inflation, deflation, stagflation,
booms and crashes, unemployment and, very often, needless wars.
We get frictions with other nations, trade interruptions, and excessive
volatility of asset and commodity prices. We get resources diverted
into efforts to protect against this system. We get failures in
accounting. We get excessive frauds and rampant speculation. We
get malinvestment. We get extremely unhealthy alliances between
financial institutions and governments.
We the ordinary
people get a great deal of needless suffering.
Improper practices
and laws are the rule, not the exception. It is absurd to
blame the 2008 crash and the subsequent deep recession and continuing
economic difficulties on the free market or on capitalism. When
it comes to the monetary system, these are nowhere in sight.
The current
financial system issues that surfaced with a vengeance in 2007-2008
and have not yet been resolved are no different from any others
in the past in the sense that the causes of them are the same as
always: improper banking practices and improper government laws
shaping financial institutions and the monetary system.
Major banks
and investment banks borrowed short and lent long. They bought long-term
assets with short-term deposits that, under the central banking
system, are treated as money or close to it. They broke the economic
rule that banks should only properly invest such deposits in self-liquidating
loans of 90 days or less while also keeping liquid reserves. They
broke the other rules as well. The long-term assets were and are
related to the housing industry, in which prices were inflated both
by the FED’s easy money and government encouragement in various
ways. When those assets fell in price, the dominoes began to fall.
By providing loans and creating huge amounts of base money, the
FED prevented widespread failures of these fundamentally flawed
and mismanaged institutions that are working within a fundamentally
flawed government-created system of laws and regulations.
The FED postponed
fixing the system, but this simply continues and worsens the suffering.
The basic problems and issues have not been resolved in the intervening
4 years. They have literally been papered over or, more accurately,
digitized over. The system is now operating in “pretend”
mode. In some countries in Europe, pretending is no longer possible.
There are those
who think – and those who are being instructed to think – that the
direct printing of forced currency (politely called legal
tender and colloquially called greenbacks) by the U.S. Treasury
is better than the printing of forced currency by the FED and will
solve the nation’s problems. Move the printing press a few blocks
down the street, we are told by Ellen Brown, and all will be well.
Why? Because those nasty banks that charge interest will be deleted
from the picture.
Yes, there
are those who think that replacing the central bank’s (forced) currency
monopoly by the Treasury’s (forced) currency monopoly will ameliorate
the nation’s economic difficulties. These people are so confused
that they do not realize that a money monopoly by any other name
is still a money monopoly. The currency forced upon the nation that
is called the Federal Reserve Note will not be improved by relabeling
it a U.S. Note and forcing it upon the nation. In both cases, we
the people are not in a position to produce our own currencies because
a central institution has forced its own currency upon us as legal
tender and monopolistically disallowed other currencies or created
insurmountable barriers to their use. It is a farce to think that
a government’s forced currency is the people’s free market currency.
Greenbackism
in the form of the printing of forced currency by the U.S. government
is totally futile as a method of monetary reform.
Equally futile
is another movement spurred on by the evidently energetic Ms. Brown.
This is for individual states to start up their own state banks.
These banks will, in certain important respects, be much like all
other banks. They will adopt the same flawed practices now in evidence
everywhere of making long-term loans against deposits, and they
will be under the same flawed government laws that exist now that
prevent monetary freedom. Their currency will be the same. The states
will guarantee deposits.
This movement
is much ado about nothing, because it changes nothing fundamental.
The hopes and promises articulated by the true believers in this
solution are bound to be disappointed. We need not even stop to
analyze the many paths by which such government-run banks will fail
to operate efficiently, distort economies, and/or cause a decline
in the banking within their states. The main point is that the proposed
institutions do absolutely nothing to bring about monetary freedom,
proper banking practices and proper government laws that must underpin
a decent monetary system. State banks that use the national currency
and work within the central banking system and the national laws
do nothing to rid us of inflation, deflation, stagflation, booms
and crashes, unemployment, needless wars and all the other ill effects
mentioned above.
The
most important message that I can deliver as the bottom line is
that a great deal of economic hardship and suffering today is directly
related to and caused by improper banking practices and a flawed
monetary system created by bad government laws. To reduce this suffering,
these must be changed.
This requires
far more radical changes in thinking and action in this nation’s
and the world’s monetary system than are commonly mentioned in the
main stream media. The radical changes have to be the right
changes and effective changes. They can’t be dithering around
with greenback ideas that are non-starters.
Until we make
government make these foundational changes, the current system is
going to deliver continued needless suffering.
June
5, 2012
Michael
S. Rozeff [send him mail]
is a retired Professor of Finance living in East Amherst, New York.
He is the author of the free e-book Essays
on American Empire: Liberty vs. Domination and the free e-book
The U.S. Constitution
and Money: Corruption and Decline.
Copyright
© 2012 by LewRockwell.com. Permission to reprint in whole or in
part is gladly granted, provided full credit is given.