“I sincerely believe, with you, that banking establishments are more dangerous than standing armies; and that the principle of spending money to be paid by posterity, under the name of funding, is but swindling futurity on a large scale.”
Politics Corrupts Money
The American economic system has been on life support for years. Much has been said about why this is so: government spending, corporate greed, trade imbalance, too much regulation, too little regulation. While these have been important talking points for Republicans and Democrats during the last election, they do not address the heart of the problem: our money.
We all understand enough about our money to trust it. Money, in many ways, is the lifeblood of our society – we accept it as compensation for our labor and use it to obtain our everyday needs. We also use money to assign value to goods and services. When money works correctly it enables the “collective intelligence” within a free market society to drive the economy.
Yet there is one aspect about money that is a mystery to most: how does it get created? Many assume the government creates money – they have the printing presses after all. Yet the true source of money in our current American economy is not our Treasury or even the Federal Reserve. It is our banks.
This was not always the case. Over a century ago, a political decision was made to give private banks the ability to create new money – the ability to create the fuel that drives our economy. How do private banks “create” new money? Simply by making loans.
As absurd as it sounds, every loan is new money added to our money supply. Most of the money in the American economy originated from a loan made by a bank. Today, almost all of the money in the our economy is backed by debt.
The consequences of this linkage of debt to our monetary supply are enormous and explains why our economy so readily becomes a series of increasingly unstable bubbles. When bankers feel optimistic about economic conditions they are very inclined to make loans and this often results in a dramatic increase in the amount of money entering the economy. Economics tells us that all of this new money will cause prices to rise. Rising prices lead to rising profits (for those close enough to the source to act first) and the economy heats up. Bankers get even more optimistic and the debt starts to flow exponentially – creating more money in a “this time it’s different” frenzy that booms until something unfortunate happens to dull the “irrational exuberance.”
The process then unwinds in the other direction. As things slow down and the biggest bets fail, the most aggressive bankers get slammed with losses. Everyone else starts to pull back. Fear takes hold and the boom becomes a bust; businesses fold; unemployment increases; spending decreases as people watch their wealth erode. In response, people opt out of (or default on ) debt and loans start to get paid off.
Because our money supply is so inextricably tied to loans from banks, once people start to reduce their debt, our money supply contracts and we are in a declining spiral. Unless there is a reason for banks to lend again, the whole system heads towards collapse.
The Great Depression was our last major exposure to the real force of a deflationary bust. Since then, we have never allowed ourselves to face such a total economic collapse. Instead, we find new ways to stimulate the economy through various mechanisms: high government spending or low capital gains tax rates; zero interest rate policies or subsidized loans; “too big to fail” claims or quantitative easing.
At first, this seems like a good idea. Better a “great moderation” than a “great depression”. But, in fact, it is a deception. We haven’t exchanged sickness for health. We have merely covered up the symptoms of sickness with stimulants.
As a consequence, while the economy has seemed fine, in point of fact it has been growing ever more fragile and more confused by the bad signals of debt money. The talented people who should have gone into engineering, science or teaching instead became brokers or bankers. Resources that should have gone into infrastructure or innovation instead went into mortgage derivatives or commodity hedges. Companies that should have been creating wealth and employing workers instead become tokens in the vast financial game of buy-outs, roll-ups and consolidation. Everywhere, hard work and virtue are subordinated to leverage and the toss of the dice.
Stimulus doesn’t solve the problem inherent in debt money. It merely delays it – weakening the real economy and upping the ante for the eventual collapse.
Another major consequence of our monetary system is the “financialization” of our economy. Money is the mechanism that allows business to understand the needs of the market. So, when the source of money is banks this signal is confused. Business responds not to the demands of the market, but the demands of finance.
The market wants well run, healthy, highly competitive businesses. Finance wants something else. Finance is about transactions – they make their money on fees, commissions and interest on debt. As a consequence, finance needs to turn businesses into assets – assets that can be bought and sold using debt.
From the point of view of finance, profits exist to pay interest. A highly profitable company can take on debt to buy out its competitors and reduce the competition in the market. Even more perversely, a company’s own profit can be used to finance the debt used to buy it out (a so-called “leveraged buyout”). The result is takeovers, layoffs, companies burdened with debt and consolidation.
In 1970, the top five banks controlled only 17% of banking assets, by 2010 this had grown to over 50%. Where there had been fifty major media companies in 1983, there are now six. Thirty four major pharmaceutical companies in 1980 compressed to seven in 2010. Big deals mean big fees and big debts mean big profits — for the financial sector.
The results have been impressive. From a low of just over three percent of all corporate profits in 1982, financial sector profits skyrocketed to forty five percent in 2002. While the crisis of 2008 brought them plummeting back to earth, five years of bailouts, stimulus, quantitative easing and even more consolidation brought them roaring back and the financial sector is once again firmly in control of more than thirty percent of all of the corporate profits in the United States (and rising).
The 1913 Federal Reserve Act, put finance at the heart of money creation. And, indeed, of all private industry, finance is the one most defined by government regulation. Banking, securities, insurance – all have stacks of laws and regulations and vast governmental apparatus defining who can participate and what they can do. As a consequence, it does not take the money power long to recognize that you can get rich gambling with other people’s money – but to get really, profoundly, wealthy you must learn how to manipulate, game and capture the legal and political system itself.
And so they have. With increasing ferocity, the money power has captured our political system by turning campaigns into exercises in competitive fundraising; by controlling the message through the media; by influencing legislators and regulators through a “revolving door” that undermines any distinction between regulator and regulated; and by shaping the law itself via unrelenting lobbying effort.
The franchise to create a Nation’s money is an extraordinary one. The beneficiaries of that franchise have used that power over time to shape both our economic and our political systems to their ever increasing advantage — and to our ever increasing detriment. This, more than anything else, is at the root of our problems. Any reform, however bold, that fails to address this root cause will fail. Consequently, our principal task is to undo the money power and to restore the Nation to the people.