19 October 2009
. I have to admit the fact that the
Federal Reserve is a private bank
is not news in the sense that it is not new. After all, the Fed was set up as a private institution in 1913, and modelled on the Bank of England, set up as a private entity in 1694 more than 300 years ago.
But it is news, probably, to you and 99% of the people who will read this article. In fact, right now you might be thinking this is a mis-print, a mis-understanding, or some crackpot conspiracy theory. It is none of the above I'm afraid.
It is a simple statement of fact.
Let's get into this. If you are a student of economics, if you are student of politics, if you just want to know what on earth is going on with this seemingly crazy world, then how and why the Fed operates as a seeming government entity, but in reality is a private concern, is possibly the most important thing you need to know.
As I said, the Bank of England was created as a private entity in 1694, although it was nationalised by the British Government in 1946. Its founder, William Paterson, said
The bank hath benefit of interest on all moneys which it creates out of nothing.
That is the core of what a central bank does. It literally creates money and lends it out at an interest rate. The perfect wealth-generating machine, no sweat.
It is really that simple.
But how can it be? Surely if it really were that simple, if private parties were literally creating money and lending it to us at vast profit, there would be a revolution? Indeed, that is exactly what Henry Ford, founder of Ford Motor Company, said.
It is well enough that people of the nation do not understand our banking and money system, for if they did, I believe there would be a revolution before tomorrow morning.
And the reason that people don’t understand it is that it has been purposefully made to seem more complex than it really is, as the famous economist John Galbraith, who died earlier this year, said.
The study of money, above all other fields in economics, is one in which complexity is used to disguise truth or to evade truth, not to reveal it. The process by which banks create money is so simple the mind is repelled. With something so important, a deeper mystery seems only decent.
The truth is actually there all around us, all the time, and yet it is hidden by jargon. Expansion of the money supply? That is the creation of money, pure and simple. We shall see later how that is done. Fed funds rate? The rate of interest that the Fed makes out of money that it has created out of thin air.
Once you have the ability to control the creation of money and you can lend it out at an interest rate that you set, you control everything else.
This includes control of politicians, who can be bought off by campaign financing; the media, who are owned or owe vast amounts of money to banks; and the academics, with the Fed funding the most highly paid jobs and programs for economists. Don’t forget that the current Fed Chairman, Ben Bernanke, is a Princeton Professor.
Perhaps the most successful financiers of all time have been - and are - the Rothschilds, with their American agents, the Morgans. The founder of the House of Rothschild, Mayer Amschel Rothschild, who lived from 1744 to 1812, explained it in this way.
Let me issue and control a nation's money and I care not who writes the laws.
His descendants, the Rothschild brothers, who had taken powerful positions in London, wrote to their associates who were busy taking over New York in 1863,
The few who understand the system will either be so interested in its profits or be so dependent upon its favours that there will be no opposition from that class, while on the other hand, the great body of people, mentally incapable of comprehending the tremendous advantage that capital derives from the system, will bear its burdens without complaint, and perhaps without even suspecting that the system is inimical to their interests.
The arrogance that dripped off the pen of these Money Masters is palpable, but sadly what they said was true. Most of us don't even suspect that the monetary system we live with is designed for our subjugation, so that others can get fabulously, unbelievably, stinking filthy rich.
The common assumption is that the Fed is a government entity. Why do we assume that? Because that is what journalists also assume and report. That is what politicians assume and report. That is what we are taught in schools and colleges. It is normally stated as simple fact.
The Federal Reserve is talked about as a ‘government regulator’. In fact the current proposals put forward by Treasury Secretary Geithner and Head of the Presidents Economics Council Summers, will make the Fed a super-regulator.
But if you stop and look at the math you will see that it all doesn’t make sense.
We all know that the US government is in debt. It has massive budget deficits, and they are growing bigger. Right?
Now contrast that with the fact the Fed, so you have been told, is part of the government. If the Fed was really a part of the government, could create money at will, and could then lend it out with interest, how could the government be in debt?
In fact what happens is that it works the other way around. The government raises tax money, which is its income. If the tax is not enough for to cover its expenditures (on roads, schools, hospitals, armies, bureaucrats and so on), then it has to issue US Treasuries or government bonds to raise money.
Treasuries and bonds are more complex ways of describing a debt (remember what Galbraith said). The buyer of the bond lends money to Uncle Sam, who then pays interest to the bondholder, until the bond comes due, when the initial amount loaned, the principal, has to be paid back.
Who buys these bonds? Well we all know that the Chinese have become the biggest foreign buyers of US Treasuries. But did you know the Federal Reserve buys vast amounts of Treasuries too?
Here’s how it works.
When the economy needs a push, such as now, the Federal Reserve ‘expands the money’ supply. In other words, it creates new money out of thin air.
It uses this newly created money to buy US Treasuries. These are called ‘Open Market Operations’. The Fed buys the Treasuries that are for sale by bond dealers, in the open or public market.
So the government needs money. It finds people who can loan it that money, for a rate of interest. One of the main suppliers of loans is the Federal Reserve. The Fed prints (literally creates in a computer program) new money, provides that money as a loan to the government, and gets paid the interest.
Brilliant! If you are the Fed, that is. Terrible if you are the government.
If the government controlled its own money supply, maybe it wouldn’t have a deficit at all? And if it has a deficit, who is growing rich off the back of that? How did this happen?
Economists need to look less at data charts and more at history to understand economics, and this is a case in point.
The struggle over control of money supply has been a part of the American history since the Revolution. You may have heard a famous quote by the Founding Father, Thomas Jefferson.
I believe that banking institutions are more dangerous to our liberties than standing armies.
He was speaking in particular about the ideas of Alexander Hamilton, another Founding Father and the First US Treasury Secretary, who created the First Bank of the United States, the forerunner of the Fed.
Hamilton was from New York where he was both a lawyer and banker, having established the Bank of New York. He was greatly influenced by both the English and French financial systems, and like JP Morgan many years later, he was the American agent for Rothschild bankers. He was particularly influenced by the structure of the Bank of England.
He established the Bank based on a set of non-negotiable principles.
The first was that the Bank should be private, as it is today.
Other principles, which are restrictive to bankers, have gradually been removed. The Bank was forbidden to buy government bonds (whereas today that is central to its operations), would neither issue notes or incur debts beyond its actual capitalization (again, today, increasing the money supply is key), and the Treasury Secretary would be free to inspect its books at any time, whereas today he has no such rights.
In this First Bank, the US government purchased the first $2m tranche of the $10m capital to be raised, and the other $8m was to be raised from the public, i.e. from bankers. That partial government ownership also fell by the wayside.
It also had a charter that expired after 20 years. In the years that followed, there were fierce debates about whether a private central bank should exist or not, and Second and Third Banks were temporarily created and then left unrenewed.
No less a figure than Abraham Lincoln said
The government should create, issue and circulate all currency and credits ... By the adoption of these principles, the taxpayer will be saved immense sums of interest. Money will cease to be master and become servant of humanity.
Think about that, the next time you see another pointless partisan debate about the deficit.
The current Federal Reserve was set up in 1913 under the Federal Reserve Act. It was designed as a lender of last resort, with the purpose of keeping the banking system intact. In other words supporting the bankers, not the government, is its over-riding function.
It has been established as a private bank, with 100% of its shareholders being other private banks. No non-bank entity can be shares in the Fed, and you can’t be considered to be a bank until you buy shares.
The Fed then lends the government money (by buying Treasuries), and collects interest.
Out of that interest revenue stream, it pays for its own expenses, and a guaranteed return of 6% to its shareholders, the private banks.
It then returns any surplus profit to the government. That allows it to proudly boast that it is not for profit, that it does not cost the taxpayer a penny, and indeed that it contributes to the finances of the nation.
Yes it does ... but only after the banks have extracted 6% profit for doing absolutely nothing other than lend money to the government that it (the Fed) just created.
Staggering, isn’t it?
But it goes even further, using a Ponzi-like mechanism called Fractional Reserve Banking.
Using this technique, there is a reserve that the Fed keeps, which are generally the US Treasuries it has bought. It can then loan out many times that amount. For example, if its reserve requirement is 10%, it can loan out ten times the value of the money it keeps. It will normally loan this out to private banks (its shareholders) at lower rates of interest than any other person or company can get access to.
Banks in turn do the same thing. According to the Basel accords, banks need 8% capital in reserves. That means they can multiply whatever money they have by 12.5 times, once again creating money out of thin air.
That is what leverage ratio is all about. And that leverage ratio is modest compared to where investment banks have got to now. Lehmans, for example, was up crazy levels like 44 times leverage at certain points before its collapse, and other banks have been busy de-leveraging from those kinds of highs (or more accurately, lows).
Money is being created and lent out for interest revenue streams at all levels of the economy. The banks profit from that, everyone else pays for it.
So where does it all end?
With Financial Crashes of course. And while the system remains in place, the boom and bust cycle gets bigger and bigger with each round. So the next time, the Crash will be even bigger. That's why we need to fix the banks.
More Background on the Fed
You can watch the excellent ‘Money Masters’ video, a 3.5 hour history of money and how central banks were formed.