Friday, October 9, 2009

Why Not the Bail Out?

In response to my letter to John McCain, suggesting that he resign, Mr. Rebel writes the following:

>WE ARE GUARANTEED A DEPRESSION IF ALL BANKS FAIL!! which happened before Great Depression.Is this what you support? I certainly do not support Wall Street Fat Cats,But I certainly do not want a depression. If giving loans to banks will advoid this I certainly support it, who wouldn't?

Dear Mr. Rebel: You are right about the depression but need to take two steps back. The problem is not to cover for the Fed's blunders but rather to eliminate the blunders before the Fed makes them. This can only be accomplished by eliminating the money creation power of the banking system and abolishing the Fed, which would end depressions and inflation and increase the productive growth of the economy.

The banking system did not exist in its current form when capitalism first evolved and did not contribute to most of the major progress that capitalism generated. The printing press, the telephone, AC electricity all came about without any need for banking.

The current form of banking was invented in the 1600s by goldsmiths who wrote more receipts for their gold than they had gold. Their receipts had started to circulate like money, and they realized that they could write fraudulent receipts. Eventually, a group of English merchants got together and convinced the king that if they could be given a monopoly on doing this (writing fraudulent receipts) they would write most of them for the king himself. Thus the Bank of England.

The Bank of England was the first central bank and its purpose was to help the king extract wealth from the general population and divert it to himself by counterfeiting, i.e., printing money. This enabled him to fight wars without taxing and tax revolts, which were more common in 16th and 17th century England than today.

There has never been any evidence that printing money "stimulates" intelligent investment. It increases economic activity such as waging war, building unnecessary buildings and the like, but there is no evidence that it accelerates innovation or contributes to the nation's real wealth.

When the Fed creates money it deposits reserves in banks and the banks lend out a multiple of the reserves. Thus, money expands because it is created by the Fed and banks. Anyone well versed in entrepreneurship knows that banks do not lend to innovative entrepreneurs. Rather, most of the banking system's countefeit is lent to the following:

-investment banks
-hedge funds and other large scale Wall Street investors
-large real estate investors
-large corporations

A much smaller amount per beneficiary is lent to small business and homeowners.

Let me give you two examples. In 1999 a firm called Long Term Capital Management almost went under, and the Fed intervened to stop it. The banks had lent LTCM ONE TRILLION dollars. That's right. One firm that employed a hundred people or so had borrowed ONE TRILLION from the money center banks. You try it.

I the early 1980s, a multi-millionaire, Bunker Hunt, was lent $100 billion to corner the silver market by commercial banks in Chicago.

These are just two examples. This kind of lending goes on every day with respect to hedge funds and the like, and it is due to the Fed. Enron would not have existed without the Fed.

Banks do not lend to the poor and therefore the poor are left out. The monetary expansion process of the Fed and the banking system thus involves a wealth transfer from poor to rich. This is necessarily the case because a side effect of the monetary expansion is reduced interest rates. Apologists for the Fed lie and claim that reduced interest rates hurt the rich because they collect less interest. But that is impossible because the chief effect of reduced interest rates is to raise stock and real estate values. Mainly the lower middle class save in money market or bank accounts. The wealthy invest in stock and real estate markets. They therefore benefit from the monetary expansion, and the chief beneficiary is Wall Street because it gains from the churning of markets that the Fed's and the banking system's monetary inflation creates.

As demand for investment bubble assets pushes up prices, the available investors in the stock and real estate investments dries up. Then, there is a crash.

At the point of the crash, banks panic and economic activity contracts. It is true that in order for people to get jobs in the short run, more stimulus would be required. But, if the Fed simply adds more investment to the overvalued stock and real estate markets, then more "mal investment" will occur. That is, the distortion in the demand for stock and real estate gets greater and a further, bigger bubble forms. Money continues to be diverted from innovation into speculation at a greater rate. Employment in non-productive industries (unnecessary real estate construction, for instance) gets greater.

The end result is hyper inflation and widespread poverty, with wealth transferred to the very wealthy. That is the end effect of "liberalism" (in the New York Times sense) and "Keynesian economics". I saw this happen in New York City, as the productive base was driven out in response to ever-escalating real estate prices and the city became a playground for investment bankers who benefit from the fresh Fed counterfeit. Good, productive jobs in industry dry up because economic resources flow to the interests who have first access to the Fed counterfeit.

The way to end this process is to allow the economy to regain its senses by providing subsidies to the unemployed and ending the inflationary monetary growth that stimulates the mal investment. Entrepreneurs, through trial and error, through experimentation, find the best uses for real capital. This takes a long time to happen, though. The pain caused to workers ought to be limited by unemployment insurance. I would have no problem with granting re-training and welfare benefits to unemployed workers hurt by the banking system and the Fed.

The worst possible thing anyone could have done was to allow the same bankers who misjudged investments in sub-prime mortgages not only to continue in their jobs but to be given large subsidies for their incompetent decisions. That is the program that you say you support. Pay trillions to bankers who made stupid investments.

I am curious what you think they will do next. Make smart investments? But they lack the know-how. Rather, they will make stupider investments and demand more support, and you and your children will become poorer than you already are subsidizing them further.

That is precisely the path on which Obama and Bush have taken you. The massive subsidy to Wall Street had the chief effect of supporting Wall Street at the expense of future generations of Americans, especially the poor and innovative entrepreneurs. It also perpetuated the mal investment. It will also ensure that workers' wages in real (inflation adjusted) dollars will continue to fall, as they have since Nixon took us off the gold standard in 1971.

The way to end the inflation/depression cycle is to end the power of the Fed and banks to create money. This would be accomplished by establishing a gold or other commodity standard and illegalizing fractional reserve banking.

In the 19th century America had a mixed commodity based and fractional reserve banking system. Jackson had abolished the Fed, which at that time was called the Bank of the United States, but allowed the state banks to continue to create money. The result was locally-induced inflation followed by depression soon after he abolished the BUS. However, the inflation cycle was not secular as it has been since 1940. Rather, there were ups and downs as local banks created too much money then went bankrupt.

Had Jackson illegalized fractional reserve banking along with abolishing the BUS and establishing the gold and silver standard, the ups and downs of the 19th century American economy would have been eliminated or reduced.

As far as the 19th century economy, there was a secular increase of wages from 1800 to 1970 of 2% per year. In 1889 David Ames Wells catalogued the innovation that had been occurring in the American economy in his book "Recent Economic Changes" and it was breathtaking.

However, in the late 19th century real estate investors (including farmers) and Wall Street as well as big business disliked the inflexible currency that was good for workers and bad for banks and big companies (because they could not get their hands on the counterfeit as Obama and Bush have made sure that they can today). Therefore, despite the public's opposing a central bank in two elections (1832 and 1896) the Wilson administration established the Fed. Wilson, who favored the gold standard and was a gold Democrat, later said it was the worst mistake he had ever made.

If you would like more information on why the theories you've been fed in school and in the media are hogwash, I urge you to investigate Murray N. Rothbard's books such as "Mystery of Banking" and "What Has Government Done to Your Money" and Hans Sennholz's "Money and Freedom". Also, take a look at Ludwig von Mises "Theory of Money and Credit".

The Fed, the boom and bust cycle and the commercial banking system are the essence of the "new deal" and the chief method by which the ultra-rich extract wealth from the productive. Pro-bank advocates have used the claim that inflation is necessary to stop depression, not mentioning that the depression is the result of the bank's inflation in the first place or that the money creation power diverts wealth to the banking system, Wall Street and the wealthy at the expense of the poor.

Well intentioned people like yourself are easily duped by the systemic lying that goes on concerning this subject. In the 19th century the public wasn't fooled by this crap (the Whigs advocated variants of Keynesian economics, and their claims were always viewed as an elitist ideology meant to steal wealth from workers, which is an accurate depiction).

I urge you to educate yourself rather than believing the lies in the newspaper and on television. I'm curious: do you actually believe that the newspapers, magazines and television stations that are controlled by Wall Street, will give you any information that is not in Wall Street's interest?


Anonymous said...

Can you give me a reference of LTCM being lent One Trillion dollars by the banks?

Mitchell Langbert said...

See the book by Roger Lowenstein, "When Genius Failed" at

Mitchell Langbert said...

PS--I was wrong about the $100 billion on Bunker Hunt. He had borrowed several billion but used futures contracts to leverage the silver investments. He finally failed to corned the silver market when he failed to pay Englehard mining for a $700 million silver delivery. The banks had stopped lending to him at that point.