Financial Superpowers

The Politically Connected and Their Multi-Trillion Dollar Cash Cow

Banking has evolved into a business that generates returns without risk to bankers and simultaneously creates risks without returns for everyone else.” The Bitcoin Standard p. 162

When governments across the globe anointed central banks with the ability to manage national currencies, they delivered an extraordinary suite of financial superpowers to a small group of politically well-connected bankers.  As might be expected, these privileged bankers use(d) these financial superpowers in ways which provide exceptional benefits to themselves and their partners in politics, at a significant cost to the public. It is worth noting, these bankers neither pay for nor rent the opportunity to manage the national currency, an alleged “common good”.    Listed below are just a few of the ways in which the banking system utilizes its powers to generate windfall profits for itself.  

Superpower #1- The FED is a Corporation

First of all, let’s establish exactly what the U.S. Federal Reserve System (FED) is and is not; namely, it is not a branch of the government.  While the government plays some role in selecting FED leaders, The FED and its regional banks are private corporations.  Member banks hold stock in the Federal Reserve Banks and earn dividends on the profits.  So, to be perfectly clear: A private corporation manages the country’s currency. 

Superpower #2 – No “Real” FED Audit

While independent auditors complete a variety of annual audits of the FED; in fact, those reviews cover only a small portion of FED activity.  The 1978 amendment to the Accounting and Auditing Act of 1950 excluded large areas of activity from audit, including but not limited to:

  • Transactions with foreign central banks and governments,
  • Discount window operations, and
  • Open market operations (actions to set interest rates).

Several attempts to perform a complete audit of the FED have been attempted in Congress, but none passed into law.

In 2012, the Government Accountability Office (GAO) completed a more thorough examination of the FED; but again, a number of important areas remained unexamined.  Even so, the expanded analysis, which included an audit of the FED’s emergency loan programs, highlighted $16 trillion in previously undisclosed loans to banks and companies across the globe between the years of 2007 and 2010.  Offering a private corporation the ability to create currency while at the same time hiding those transactions behind a curtain of secrecy seems incredible.  

Superpower #3 – FED Creates Currency

The FED creates currency by essentially typing numbers into its bank account and then using those funds to buy government bonds.  Actions to buy (or sell) government bonds are called “Open Market Operations” and are instrumental in setting interest rates. By simultaneously creating money and purchasing bonds, interest rates are manipulated/pushed down.  

Since low interest rates require the FED’s continued creation of new currency, and currency creators benefit from the creation of more currency, the FED is incentivized to favor low interest rates.  As a result, the FED’s currency creation machine runs at two speeds: fast and faster.

Superpower #4 – Banks Create Currency Most (approximately 92%) of the currency in circulation is loaned into existence by banks.  That is, when banks issue loans, they are creating new currency.  How? Fractional reserve lending.  When the FED creates currency (as outlined in Superpower #3), those funds are deposited into a bank. The banking system then loans out and re-deposits the money in successive rounds of new lending, keeping only 10% of each deposit in reserve.  So, for example, assume a bank starts with a new deposit of $1M.  By loaning and redepositing those funds over 30 loan cycles (as demonstrated in Table 1), the system creates an additional $8.6 million in currency – and collect interest on all of it!

Superpower #5 – Low Interest Loans

Banks borrow at interest rates unavailable to anyone else.  In fact, between December 2008 and 2015 banks borrowed from the FED at just a smidge over 0%, 0.15% to be specific, as shown in the chart below.  

Superpower #6 – Primary Dealers

One might think that if the U.S Treasury consistently needs to borrow money, and the FED wants to create and lend money, that the two parties could just deal directly between themselves. What actually happens, however, is that the banks (the primary dealers in government debt) stand between the Treasury and the FED passing the bonds and currency between them – making a nice profit in the process!

Dealing in government bonds in this manner is like shooting fish in a barrel.  Given the FED publishes its targeted interest rates prior to bond sales, bond dealers know exactly what they will be able to sell the bonds for.  Given the dealers know the sale prices ahead of the actual sale, they need only purchase them from the Treasury for less; and viola, guaranteed profits!

Superpower #7 – The FED Pays Dividends

Remember Superpower 1 – that the FED is a corporation?  That corporation pays dividends of about 6% to the banks who own it.  Not bad!

Superpower #8 – Bailouts When really big banks make massive mistakes or run into trouble, the taxpayers bail them out.  The “too big to fail banks” keep the profits from the good years, while the taxpayer enjoys the hefty losses. Table 2 below lists the top recipients of the $16 trillion handed to banks from December of 2007 through July of 2010 (mentioned in Superpower 2).

Summary

Is it possible to build a more lopsided financial system?  The responsibility to manage the currency supply was handed to a private corporation called the Federal Reserve System.  The FED and the banks create currency and collect interest on every bit of it. In addition, the FED regulates and monitors the banking system; but given the banks own the FED, it appears as though there’s a colossal conflict of interest.  If the banks experience difficulties, they enjoy exceptionally low interest loans from the FED to assist in their recovery. If low interest loans don’t do the trick, a tax-payer funded bailout should solve the problem. All the while, the hard questions about FED actions remain hidden behind a curtain of secrecy.

Next article in series – Economic Pretzels

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DISCLAIMER:

The information provided herein and any accompanying materials is for informational purposes only.  The information is of a general nature and does not address the circumstances of any particular individual or entity. You should not construe any such information or other material as legal, tax, investment, financial or other advice.  I am not a financial advisor and you should consult with an attorney or other professional to determine what may be best for your individual needs. 

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