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Money Part VII - End the Fed

April 12, 2009 – Comments (6)

I've had to break this post up into two parts. The first part is here. The second part will be the first comment. I hope you enjoy it, particularly the ending video :)

Introduction

I haven't been a very busy blogger lately. Lots of forces are arrayed against me right now. Work has been busy. My family has needed my support. It's tax time. Most importantly, however, it's baseball season and I don't miss a Cubs game if I can help it. This year, I've got the MLB.TV package and a VPN set up so I can watch 2,430 MLB games online out here in the middle-of-nowhere-Qatar. Thank Gore for the Internet!  That means a lot more emails to friends lamenting the Cubs lack of a lefty handed setup guy (aka the LOOGY) and fewer posts about economic freedom. 

It's an appropriate segway to our current discussion. (You can find the previous six articles on Money here.)  In our efforts to End the Fed and return America to a monetary system of sound money there are several forces aligned against us. Without an understanding of who they are it will be impossible to win this battle.  We may defeat one enemy in the intellectual debate, only to lose to 4 or 5 others.  In the previous 6 posts on money we've covered a large number of misconceptions about our current monetary system. This is going to be a speed of light summation of the arguments for the abolishment of the Federal Reserve and legal tender laws and their replacement with nothing. 

Money use arose in society naturally, as market participants needed a fungible asset to be used in indirect exchange, normally gold and silver. The government never decreed money use. Instead it abrogated competition in currency creation after starting its own mints. The government mints were often the source of corruption by debasement.  Without abrogation, governments could never have monopolized the money supply. It would be as likely as the Post Office driving UPS out of competition.  It couldn't happen without outlawing UPS.  

You Burned My Towns and Raped My Women But I Enslaved Your King - The Birth of Central Banking

If you ask a Scot what he thinks about the English you are likely to hear a list of expletive filled greivances that span a thousand years.  Scotsman William Paterson turned the tables on the English in 1694, offering to loan the king 1.2 million pounds in exchange for the creation and priviliged status of a new bank, charmingly called The Bank of England. Thus, the English crown and his people were enslaved.  William III had ascended to the throne during a time of rebellion and endless conflict.  The Crown was broke.  Rather than curtailing Britain's vast empire and ending hostilities with France, the King applied for a loan.  Besides, I'm sure anyone who mentioned such peaceful alternatives was considered a threat to national security who emboldened the francoterrorists. 

The Forces Aligned Against Us

Before we move along, here is my personal message to all liberty lovers. When debating these topics, we tend to fall into a trap. We focus on bankers or Socialists, exclusively, thus making us easy targets for skeptics. "Oh you believe in evil banker conspiracies," they mock us.  Its much more important to focus on the policies, with an ultimate understanding of who benefits from these policies.  All who benefit from the Fed will be looking to crush any resistance, as Democratic Congressmen Barney Frank and Henry Gonzalez found out 1993 when they took on the Fed.  Imagine their surprise when they were smashed by fellow Progressive Bill Clinton? 

Back in 1993 Gonzalez sponsored a bill (Frank co-sponsored) that called for "fullfledged Congressional control of the Fed's budget ..... full independent audits of the Fed's operations; videotaping the meetings of the Fed's policymaking committee; and releasing detailed minutes of the policy meetings within a week ..... the presidents of the twelve regional Federal Reserve Banks would be chosen by the president of the United States rather than, as they are now, by the commercial banks of the respective regions." (The Case Against the Fed, Rothbard, p. 4)

This isn't about Left and Right, Conservative and Liberal.  This is about liberty vs. power, individual power vs. collective power. We see that, in this game, money production makes strange bedfellows.

The Bankers

Support for our current banking system runs deep in the Fool community, unsurprisingly. Most seasoned investors have intimate knowledge of commercial banks and investement banks, and have followed the actions of the Fed for years, if not decades. Imagining a world without them seems impractical and foolish.   We've already tackled the typical inflation / deflation arguments put forth by Fed proponents as well as other less sophisticated arguments for the Fed's monopoly on money.  

The purpose of the Federal Reserve, from the banker's perspective, is to create money for banks. It is really that simple.  Fractional Reserve banking is inherently flawed and always collapses.  It must because embezzlement is a destructive process.  That is why in any scenario besides banking, embezzlement is outlawed.  It destroys wealth.  A backstop is needed - a lender of last resort - to protect the banking system from its predetermined downfall.  

What is embezzlement and how does it apply to today's banks?  Banks started as money warehouses where deposits were backed 100% just as they are in any storage facility.  Imagine giving a warehouseman your grandmother's wedding ring to hold for a year and when you return he shrugs, "sorry but I lent it out to John and he never paid it back. Here's the cash value for it instead from the FDIC."  You would be outraged and he would be put in jail.  But what if the item was fungible?  In other words, what if the item had millions of close matches that could be subsitituted with no harm done?  Wouldn't that eliminate the problem of fractional reserve?  Not at all. Consider the grain warehouses of the 19th century.  Often they operated on a fractional reserve, selling futures contracts to Chicago BOE traders for grain assets they did not have in reserve.  Eventually, just like the banks, all their schemes fell apart. They were charged with embezzlement and jailed. 

So why not allow 100% reserve banks to compete with fractional reserves? If you did that, savers would set the interest rate rather than the Fed. In fact, over time it would make the Fed's interest rate manipulation fairly meaningless.  Scrupulous savers would invariably be drawn to the 100% reserve banks once they understood their advantages in stability and service.  Once 100% banks are firmly established, the idea that taxpayers invested in 100% banks would be willing to bail out taxpayers invested in fractional reserve banks seems ludicrous.  The FDIC scam would unravel and only the least risk-adverse citizens would continue to put money into the Fed's cartel.  On the flip side, fractional reserve banks would be forced to clean up their balance sheets, engage in less speculative lending, and resist the tempation to overextend themselves.  Fear of bankruptcy is the best way to keep a fractional reserve bank honest. In fact, it's the only way.  

The Fed's arguments get even weaker when we consider the idea of competing currencies produced on the market by independent entrepreneurs.  Why shouldn't money arrive at the marketplace is the same manner as clothing and computers?  The Fed's argument is two-fold: first that it will weaken confidence in the dollar and our current monetary system and second, that it will be unstable and chaotic. The first argument is true. In fact, it is the very reason that we desire free market money production.  We want to weaken the power of the dollar, as it is from this very system that forces have taken power away from the individual, confiscated our wealth, encroached upon our liberties, expanded the American empire into 130+ countries, and turned our political system into a charade and laughingstock.  The second argument is purely perjorative and speculative nonsense.  If the market for clothing and microchips is stable, based upon service, value, and reputation, why would the market in money production be any different?  The Austrian Theory of the Business Cycle can actually help you understand that the Federal Reserve itself, along with Fractional Reserve Banking, is the source of instability in our economy.

The Progressives

Imagine the surprise of Congressmen Gonzalez and Frank when President Bill Clinton opposed their plan to open up the Federal Reserve to oversight, as I described above.  Some Democrats have co-sponsored Congressman Ron Paul's bill to audit the Fed.  They too will be surprised when President Barack Obama, the self-proclaimed champion of transparency, comes out against the plan, which he is certain to do.  Powerful Progressives understand the value of having a monopoly on the supply of money.  We already observed the obvious hypocrisy of decrying monopoly as a free market evil but supporting a government granted monopoly  when its useful in this post.  

The relationship between the Progressives and central banking predates the Federal Reserve. European Socialists had already found themselves a willing supplier of the nation's wealth for their reform agendas in Europe, all but extinguishing Classical Liberalism from the continent by the late 19th century.  It was only a matter of time before they would find a way to make central banking a permanent institution in America.  

"The origin of the Federal Reserve has been deliberately shrouded in myth spread by pro-Fed apologists. The official legend holds that the idea of a Central Bank in America originated after the Panic of 1907, when the banks, stung by the financial panic, concluded that drastic reform, highlighted by the establishment of a lender of last resort, was desperately necessary. All this is rubbish. The Panic of 1907 provided a convenient handle to stir up the public and spread pro-Central Bank propaganda. In actuality, the banker agitation for a Central Bank began as soon as the 1896 McKinley victory over Bryan as secured." (The Case Against the Fed, Rothbard, p. 82-83)

As the Bankers tried to grapple with an American psyche that favored sound money they had some things working in their favor. The hard money Democrats had lost a great deal of power to the inflationary Republicans after the Civil War.  (Yes, the Democratic party used to support hard money and slavery. At least they had one out of two right.)  During that same period the Progressives had made massive inroads into American politics by working with Big Businesses, pushing forward regulatory reforms that would monopolize and cartelize certain industries while telling the public that these reforms would prevent monopolies.  The naive American public was buying it up.  The railroad and meat packing industries had already consolidated their power, and now it was the bankers turn to ally with the Progressives to crush competition.  

But why would Progressives, those noble reformers want to stamp out competition and be so willing to engage in dubious, hypocritical, and deceitful tactics?  In reality, the Progressives have only wanted one thing: power.  They'll pretend to populism if it will help win elections. They'll tell you to Rock the Vote since you'll surely vote for their guy.  They'll promise anything under the heavens so as long as you'll vote for them.  They may refer to themselves as Liberals or Socialists or something else, but their political ideology is always a secondary consideration, useful only for motivating the apparatchik at the DNC and shaping the political discussion.  Progress is moving forward.  Moving forward towards what exactly is a matter of little consequence. Being the people who do the moving is what matters to them. Might makes right.