Income Tax Has Been Highly Destructive to Society

Income Tax Top-Bracket-2

QUESTION: Mr. Armstrong;

I understand the income tax was introduced in 1913 with the creation of the Federal Reserve. Is it possible for a nation to survive without an income tax?

HG

 

ANSWER: Income taxes are a product of the Marxist period. This is when class warfare became dominant. People actually argued that it was unjust that someone else had more money than another and expect government to take it from them. The introduction of the Income Tax was expressly stated that it would ONLY apply to the rich. This is no different from seeing someone with a Rolex watch and going with a gun to rob him yelling it’s not fair he has someone you do not. This is the coveting of your neighbor’s goods.

There are some who begrudge others having anything they do not and attribute everything to some sort of fairness. This was the dominant theory that took hold in the world especially after the Panic of 1893. This trend has led to the downfall of Western Society as it it to those who grabbed all property in the Communist world.

Nevertheless, this displaced the family structure and altered society tremendously. Children no longer saved to take care of their parents. That became the duty of the state – not their obligation. So as the state now fails from fiscal mismanagement, we will see the true cost of Marxism as did those behind the Iron Curtain. The difference today, they have a health distrust about government and retained the family structure. I Europe and America, we lost much of those values as a whole.

The fact that the US National Debt was paid off on January 1st, 1835 without an income tax proved that Marxism and the income tax is not merely unnecessary, it has been highly destructive.

Extinction of the National Debt

On December 26th, 1834, the Treasury Report, announced the astonishing important event in economic history – the National Debt Of the United States, which at one time amounted to more than $127,00,000, would be totally Extinguished on the first of next month (January 1, 1835). This fact demonstrated that income taxes were not required. During the course of 19 years, by means of only indirect taxation, the $127 million national debt was paid off.

 

1st of Jan
Debt
President
1784 Washington pop was 3,000,000
1791 $75,463,476.52
1792 77,227,924.66
1793 80,352,634.04
1794 78,427,404.77
1795 80,747,587.39
1796 83,762,172.07
1797 82,064,479.33
1798 79,228,529.42 John Adams
1799 78,408,669.77
1800 82,976,294.35
1801 83,038,050.80
1802 80,712,632.25 Jefferson
1803 77,054,686.30 Louisiana Purchase
1804 86,427,120.88
1805 82,312,150.50
1806 75,623,270.66
1807 69,218,398.64
1808 65,196,317.97
1810 53,173,217.52 Madison
1811 48,605,507.76 National Road Begun
1812 45,209,337.90 War of 1812 Started
1813 55,962,827.57
1814 81,487,346.52 War of 1812 Ended
1815 99,833,660.15
1816 127,334,933.74 The year with no Summer
1817 123,491,965.16
1818 104,466,633.83 Monroe
1819 95,529,648.28 Pop was 9,000,000
1820 91,025,500.15 Missouri & Maine
&
1st steam engine
1821 89,957,127.66
1822 93,516,675.98
1823 90,875,877.22 Monroe Doctrine
1824 90,259,777.77
1825 83,788,432.71 Erie Canal
1826 81,054,059.99 John Q. Adams
1827 73,957,357.20
1828 67,475,043.87
1829 58,424,413.67
1830 48,580,534.22 Andrew Jackson
1831 39,082,461.88
1832 24,282,879.24 SC threaten
secession over tariff
1833 7,001,698.83
1834 4,722,260.29 reaper patent
1835 0,000,000.00

San Francisco Earthquake of 1906 & Regional Capital Flows

SanFran1906EarthQuake
COMMENT:  Hi Marty,
 I quite enjoy your writing.  My understanding regarding the panic of ’07 is that it was at least partly the result of earthquake and San Francisco fire of 1906.
Really looking forward to your book(s), especially the rewrite of “Greatest Bull market” as I believe you will be pointing out the sorry history of how we got into this mess in the late 19th century.
Also, Keep up the “Take No Prisoners” approach with the opposition.  The Stakes are too high.
Eric
REPLY: Yes, the San Francisco Earthquake resulted in capital flowing from the East to the West Coast. Insurance companies also in Germany were hit and they too had to pay claims in California. This is why they set up the various branches of the Fed to manage this internal capital flow problem between regions.
The Copper Manipulation was the straw the broke the camel’s back. It was the final event that set off the Panic of 1907, however, there was already a cash drain from East to West, which made the NY banks vulnerable.

 

Screwing the Young & Old

YoungOld

The end of socialism is not going to be pretty. Politicians have screwed the youth with student loan debt that they made non-dischargable to help the bankers, followed by lowered interest rates to “stimulate” the economy, which has only lowered their own cost of funding. The youth are burdened with huge debts paying 7% on average, making bankers rich, yet this group has been living with their parents well in to their 30’s for the most part. This debt will prevent the youth from becoming homeowners. Becoming a lawyer or a doctor is no longer a top career prospect. By the time they graduate, and enter the workforce with a low base salary, their prospects for becoming as rich as they once expected looks grim.

Student loans are the greatest crisis we will see in the years ahead, which under the current system will lead to civil unrest. Kids are fed bullshit about getting a degree, yet 65% cannot find employment in the field they studied in school. There is no performance bond, so universities need not be competitive for they have guaranteed income through the secured loans and no worries. It does not matter what they teach, for they will be paid at the end of the day.

The elderly are unable to live their dream, as home ownership means nothing with rising property taxes that continue regardless of your working status, and far exceed what the average retired person earns for income through their savings. This is becoming crazy for both groups as society is pushed to the extreme. There is no hope without major economic reform.

In addition to the solution presented at the conference, allowing student loans to discharge in bankruptcy is mandatory, and to force competition among schools that will be paid only 50% for an education unless the student finds employment in the field in which they have a degree. OMG, they actually have to train someone?

For the elderly, property taxes MUST stop at retirement on the primary home. The elderly should not be forced to leave their homes because they can no longer afford the taxes. This will force some restraint in municipal governments. Also, eliminate using the police to convert them into revenue agents. No fines should be imposed without a jury trial and that is to be determined solely by a jury. Stop the incentive to rig traffic lights etc.

The Federal Reserve: Part II

Federal-Reserve-DC

 

The amount of propaganda against the Federal Reserve is incredible. What we must keep in mind is that its original design, which lasted for about one year, was brilliant. The classic banking model, borrowing from depositors on a demand basis and lending long-term making a profit on the spread in interest rates, such as business loans and mortgages. This was Relationship Banking not today’s Transactional Banking model.

 

Bankenkrise - Deutschland 1931

Yes, this was fractional banking insofar as about 8% of the money needed to remain free to service demand requirements. The crisis comes during an economic contraction when people run to the bank for a loss of confidence and demand to withdraw their funds. This results in the value of cash rising in purchasing power, compared to assets, so asset values collapse.

The idea of “elastic money” was to increase the supply of cash during such a crisis to meet the demand for withdrawals and that would offset the need to sell assets by calling in long-term debts. By increasing the money supply on a temporary basis, the Fed could offset the contraction in theory smoothing out the business cycle.

This was a brilliant scheme. However, it has been Congress, and not the Fed, who has corrupted that mechanism. The Fed was owned technically by the banks as this was supposed to save the taxpayer money. The banks should contribute to their own bailout fund.

Furthermore, the Fed’s design was also about buying in corporate paper when banks would not lend money. This was a mechanism used to offset rising unemployment if corporations could not fund their operations. They supplemented this by the management of regional interest rates to balance the domestic economy. Each branch of the Fed could raise or lower their local interest rate autonomously to attract capital when there was a local shortage or deflect capital when there was too much. This would often take place with the crop cycle, as money would flow in to pay the farmers upon delivery. Regional capital flows became the Texas-New York arbitrage for when Texas was booming New York was in recession and vice versa. This was the original design and purpose behind the Fed. The Jekyll Island meeting was held in secret ONLY because there was a very strong resentment against anyone with wealth as Marxism dominated the Progressive Movement of the era. There was no such cabal to create some evil entity.

1917-war-declaration

Congress began to manipulate the Federal Reserve for their own self-interest when World War I broke out on April 6, 1917. The alteration to the design of the Fed was to direct it to buy government bonds, not corporate. In this first step, they never reverse this decree after the war. They removed the brilliant design to stimulate the economy directly by purchasing corporate paper during a recession. In the last 2007-2009 crisis, the government wrote a check to TARP and hoped that the banks would lend money, but they did not. Removing this first pillar of the independent Fed distorted the entire system. It then made little sense for bankers to own share in an entity that was no longer privately controlled.

goldmansachstrading-2

During the Boom-Bust Cycle of 1929, banks became traders. Whatever they could make money on was fair game. Goldman Sachs was caught-up in the whole bull market just like everyone else. Under the leadership of Waddill Catchings, who led the firm into joining the hot market by creating an “investment trust” where he saw that a giant fund could maximize profits by buying and selling stocks. He promoted this as a business that was professional, and the profession was investing.

The Goldman Sachs “investment trust” was sort of the domestic “hedge fund” of its day. Everyone was jumping into the game. Catchings was caught-up in the whole thing and was very bullish going into the high of 1929. He gave this new entity the name: Goldman Sachs Trading Corporation. The deal was that Goldman Sachs would be paid 20% of the profit, offering stocks at $104 per share. The stock jumped to $226 per share – twice its book value. This would be the very same mistake exposed in the Crash of 1966 when shares in mutual funds traded on the exchange allowing them to be bid up well beyond their asset value.

The whole bullish atmosphere was very intoxicating. Just three months into the fund, Goldman Sachs arranged for a merger of the trust fund with Financial & Industrial Corporation that controlled Manufacturers Trust Company that was a giant group of insurance companies. This doubled the assets of Goldman Sachs Trading Corporation taking it up to a staggering near $245 million. This was huge money in those days. The trust exploded and the assets under control are said to have exceeded $1 billion.

Goldman Sachs expanded the leverage going right into the eye of the storm that was about to hit starting on September 3rd, 1929. In the summer of 1929, Goldman Sachs launched two more trusts: Shenandoah and the memorable Blue Ridge. The shares were over­-subscribed; Shenandoah began at just $17.80 and it closed on the first trading day at $36 per share. Blue Ridge was leveraged even more, and the partners at Goldman Sachs put pressure on everyone to buy as a sign of support. The leverage was astonishing for with just about $25 million in capital, there was now more than $500 million at stake.

The disaster was monumental to say the least. Goldman Sachs Trading Company, whose shares had stood at $326 at their peak, fell during the Great Depression to $1.75. They fell to less than 1% of their high. The loss suffered at Goldman Sachs on a percentage basis was far worse than at any other trust. In fact, of the top trusts, Goldman Sachs had lost about 70% of the entire trust market.

Goldman Sachs was awash with lawsuits and it became the target of jokes in Vaude­ville. This would fuel the anti-Jewish feeling in New York for decades to come. Samuel Sachs died in 1934 at the age of 84. He was devastated, for what he had worked for was to build the firm’s reputation. That is what broke the family in two.

The Glass-Steagall Act, also known as the Banking Act of 1933 (48 Stat. 162), was passed by Congress in 1933 and prohibited commercial banks from engaging in the investment business. It was enacted as an emergency response to the failure of nearly 5,000 banks during the Great Depression. Why? Because banks sold trusts and foreign sovereign government bonds to the public in small denominations. During the Stock Market Crash of 1929, amid accusations that Goldman had engaged in share price manipulation and insider trading, this was the actual drive behind the act. Goldman Sachs inspired the decision to ban insider trading in the United States in 1934.

Glass-Seagall

Goldman Sachs then installed Robert Rubin under Bill Clinton as Secretary of the Treasury. Ironically, the very firm that inspired Glass-Steagall seized control of Congress with political donations to get it overturned. This began once again the age of Transactional Banking.

Part III Tomorrow

The Federal Reserve: Part I “The Creature from Jekyll Island”

The_Creature_from_Jekyll_Island-2

Hello Martin-

Great work and I wish you the best.

One question regarding your recent email alerts from your blog in regards to the “money out of thin air” discussion that was/is going on.

What is your opinion on how G. Edward Griffen’s book, “The Creature From Jekyll Island”, relates to the discussion on the above topic. Do you think he is wrong on his analysis of the Federal Reserve?

Thank you for your time, sir and I look forward to your answer and opinion because it seems that you and him have conflicting opinions.

Regards,

Tim

ANSWER: This is like asking to criticize the Bible since so many people believe every word written in this book. Well here it goes. Thousands of hate e-mails will flood in, but conspiracy myths be damned, they are a cover-up for the real culprit – Congress. Some people hate central banks because of this book, they believe Andrew Jackson was a hero and are oblivious to the fact that he set off a round of wildcat banking that ended in yet another sovereign debt default among the states who then tried to bailout their own banks.

Well, fiction be damned. “The Creature From Jekyll Island” is amateurish at best and another total misrepresentation of the facts and events. It is very one-sided and ignores the real political manipulation of the Fed by the government for their own self-interest. It promotes the very same Marxist/socialistic beliefs from the Progressive Era that gave us the New Deal and robbed every one of their future: altering the family structure in the West forever.

The original design of the Fed was to be private, for banks were to contribute to fund their own bailouts, as JP Morgan had done taking the lead during the Panic of 1907. It was not to be a government bailout operation. The United States had no central bank at that time. There was never any intent to create the institution as it exists today: the original design was altered dramatically by lawyers who never understood the madness of their own minds in their pursuit of power as politicians.

Morgan Christendom

We must also look at the context of the era from which Griffin draws his ideas. We must be EXTREMELY careful for much of what he said is sheer propaganda, directed at the bankers to support the rise of Marxism – the new Progressive Movement. This movement finally succeeded with the New Deal and the Great Depression focusing blame at bankers, when in fact Europe collapsed into a Sovereign Debt Crisis in 1931, which sent the dollar soaring and a capital concentration from around the world made the 1929 high just as the Nikkei peaked in Japan during 1989. To look at this era we absolutely MUST step back and look at the whole situation dispassionately. If we do not put this conspiracy aside, we will never understand what really needs to be reformed.

Wilson-Morgan

Before Woodrow Wilson became president, he was the head of Princeton University, and uttered praise for Morgan and his effort to save the banking system during the Panic of 1907. The Marxists were responsible were turning the bankers to evil in an attempt to eliminate freedom. After all, this was the rising sentiment cheering Marxism and demonizing capital focus on the bankers. This was their agenda that we are still plagued by to this day. This book championed the entire Marxist argument without realizing whose side he took.

matrix_red_blue_pill

We must be EXTREMELY careful here for to advocate the end of central banking is to advocate communism. Do not forget that 1917 saw the Russian Revolution, and in 1918 the Communist Revolution in Germany that produced their famous hyperinflation. Be careful what you wish for, if it became true you would hand more power to government, and they would love that to happen. Their goes all your freedom and with electronic money, you will be converted to economic slaves for the state, not so different from just living the dream in the Matrix. Ask yourself, do you want the truth or do you prefer to live the dream? Their dream by the way, not yours.

The difference between the bankers of Morgan’s day and today is very different. The crisis unfolded because of the classic mismatch between deposits, which are on a demand basis, and loans, which are long-term like mortgages. When the demands to withdraw exceed available cash (fractional banking), the bank fails. Today, the bankers are traders and have moved to transnational banking to stay liquid abandoning the old days of Morgan when banks were relationship oriented and did not resell the loans they made acting more like brokers.

Glass-Steagall Signing-Repeal

JPMorgan Chase CEO, Jamie Dimon, told Congress that the bank’s massive loss can be blamed on insufficient risk controls and a failure by traders to understand the bets they were placing. He actually stated that he failed in his management yet retained the job for he was really fully on-board. This is not relationship banking and it is entirely different from the days of J.P. Morgan view of banking. Dimon lobbied Congress to rollback Dodd-Frank so they could continue to trade maintaining their transaction banking model they used to get Congress to repeal Glass-Steagall by the Clinton Administration and now Hillary begs for money from the same people and wants to run the nation as SHE DID before (like Cheney). Thanks to the Clintons, who are always available to the highest bidder, when the banks blow up on trading again, this will bite Congress in the ass for the 2016 elections. I hope that if we understand the problem, we will make the right solution this time if we examine the truth.

Yes, the Fed began effectively as private consortium of banks to accomplish what J.P. Morgan did to rescue the banking system during the Panic of 1907 that saved the day. The banking crisis of that era was not due to people blowing up with their trading as in Transactional Banking today. The Panic of 1907 was the classic mismatch between demand and loans – the fractional banking element.

Morgan-JPA period of a temporary cash shortage burst forth during the Panic of 1907. John Pierpont Morgan (1837-1913) saved the day despite receiving criticism for ignoring his great patriotism and contribution to the country. The Panic began when there was an attempt to manipulate the market in United Copper Company, which was a short squeeze that backfired. This was the catalyst, not the cause. The spark ignited the Panic that took place. They borrowed money to buy stock to create the squeeze from the Knickerbocker Trust and suddenly they could not pay back their loans, bringing the bank into failure. J.P. Morgan gathered his associates to examine the books of the Knickerbocker Trust but found it was insolvent and decided not to intervene to stop the run. When it became clear the Knickerbocker Trust would fail, the run spread to other banks and a contagion grew. The Trust Company of America asked Morgan for help. Morgan now brought in First National Bank and National City Bank of New York (later Citi Bank), and the US Secretary of the Treasury. Morgan had a quick audit of the bank and declared that this was where to defend. As the run began, Morgan worked with his associates to sell the assets of the bank to free up cash for the depositors. The bank survived the close of business that day for this is always a CONFIDENCE game.NYSE-1908Morgan knew that this collapse in CONFIDENCE would not end by just saving the Trust Company of America. Morgan now summoned the heads of various banks in New York and kept them until they agreed to provide loans of $8.25 million. Morgan convinced the Treasury to deposit $25 million in NY banks. John D. Rockefeller, the wealthiest man in America, deposited $10 million with City and called the Associated Press to announce his pledge to help the NY banks. Nonetheless, the New York banks then, as now, proved to be their worst enemy. Despite the efforts of Morgan to create this infusion, they were reluctant to lend any money for short-term stock trading. The stock market crashed as a result. By 1:30 pm on October 24th, the president of the NYSE went to tell Morgan the exchange would close early. Morgan was livid. He understood that this would reinforce the Panic and he drew the line and would not allow it. Morgan warned that if the NYSE closed early, it would be catastrophic to say the least. Once again, he summoned the bankers who arrived by about 2:00 pm and Morgan pretty much yelled at them, warning that as many as 50 stock brokerage firms would fail unless they could raise $25 million within the next 10 minutes! By 2:16 pm, 14 banks pledged $23.6 million to keep the stock exchange alive. The money reached the exchange by 2:30 pm, to finish trading at 3:00 pm. In reality, they only needed to reach $19 million. Despite his hatred for the press who seldom treated him fairly, Morgan gave a rare comment to the press, discussing the matter at hand.Panic-1907-1

The next day, the NYSE needed more money, but this time Morgan could only raise $9.7 million. Morgan directed the NYSE not to use the money for margin sales or short selling. The exchange made it to the close. Morgan knew he had to turn the minds of the people and to restore their critical CONFIDENCE to stop the Panic. Morgan than formed two committees: one for persuading the clergy to preach calm to their congregations on Sunday, and the other to sell the idea of claim to the press. Morgan was desperately trying to hold the nation together. Unknown even to his associates, the City of New York could not raise enough money through its bond issue and it informed Morgan that it needed $20 million by November 1st, 1907, or the city would go into bankruptcy. Morgan himself contracted to purchase $30 million in New York City bonds.

On November 2nd, 1907, one of the largest stock exchange brokers, Moore & Schley, was heavily in debt using the Tennessee Coal, Iron & Railroad Co. stock as collateral. The thinly traded stock was under pressure. Their creditors would now surely call their loans. Morgan called another emergency meeting for a proposal put forth that US Steel Corp, would acquire the stock in bulk. Yet another crisis was looming. Runs were now likely to hit two banks on Monday. Morgan summoned 120 banks and told them he would not proceed with the US Steel deal unless they supported the banks.

JP Morgan=LIbrary

Morgan proceeded to lock them in his library and told them they have to come up with $25 million to save the banks. It took almost 2 hours. Morgan finally convinced them that they had to bailout the banks to save their own skins. They signed the agreement, and he unlocked the doors and let them leave.

Garfield James Rudolf Sec Interior

Morgan was saving the nation again, single-handedly. He then turned back to save the NYSE. He knew the problem would be the Marxist inspired Antitrust Laws (Sherman Antitrust Act), and the crusading Marxist/Progressive President Teddy Roosevelt (1858-1919). Breaking up companies that he believed were monopolies became the primary focus of Roosevelt’s administration. To save the day, he would have to see that the Antitrust Laws must yield.

Two men thus traveled to the White House to implore Roosevelt to set aside his Antitrust Laws to save the nation. As typical, Roosevelt’s secretary refused to let them in to discuss the problem. The two men, Frick and Gary of US Steel turned to James Garfield who was Secretary of the Interior at that time and son former President Garfield. They pleaded with him to go to the president directly. Garfield had convinced Roosevelt to review the proposal and Roosevelt was for the first time forced in to a corner. He had to realize a collapse of the NYSE would take place if he did not yield in his anti-corporate beliefs. Roosevelt later lamented:

Roosevelt-Teddy

“It was necessary for us to decide on the instant before the Stock Exchange opened, for the situation in New York was such that any hour might be vital. I do not believe that anyone could justly criticize me for saying that I would not feel like objecting to the purchase under those circumstances.”

Following the near catastrophic financial disaster known as the Panic of 1907, the movement for banking reform picked up steam among Wall Street bankers, Republicans, and a few eastern Democrats. However, much of the country was still distrustful of bankers and of banking in general, especially after Panic of 1907. After two decades of minority status, Democrats regained control of Congress in 1910 and were able to block several Republican attempts at reform, even though they recognized the need for some kind of currency and banking changes. As always, it was more important to further political party power than actually do the right thing for the nation.

In 1912, President Woodrow Wilson (1856–1924) won the Democratic Party’s nomination for president, and in his populist-friendly acceptance speech, he warned against the “money trusts,” and advised that a concentration of the control of credit may at any time become infinitely dangerous to free enterprise. It was the anti-Wall Street agenda.

Behind the scenes, the Panic of 1907 revealed the weak underbelly to the American financial system. After the scare that the Panic of 1907 created among the bankers, they demanded reform. The following year, Congress enacted the Aldrich-Vreeland Act of 1908 establishing the National Monetary Commission forming a study group of experts to come up with a nonpartisan solution. They viewed the lack of a central bank in America, in contrast to Europe, as the threat to economic stability among the bankers as filled by J.P. Morgan during that crisis.

A National Monetary Commission formed and the Republican leader in the Senate, Senator Nelson Aldrich (1841-1915) took charge. Aldrich was a brilliant man who was passionate about revising the American financial system. The Commission went to Europe and was duly impressed at how well they believed the central banks in Britain and Germany handled the stabilization of the overall economy and the promotion of international trade. The Commission issued some 30 reports between 1909 and 1912, which preserved a wonderful detailed resource surveying of banking systems of the late 19th and early 20th centuries at that time. These reports examined also the Canadian banking history in addition to the banking and currency systems of Belgium, England, France, Germany, Italy, Mexico, Russia, Switzerland, and other nations. They also provided an excellent review of domestic U.S. financial laws federally as well as state banking statutes. These reports contain essays of contemporary specialists as well as a host of data in tables, charts, graphs, and facsimiles of banking forms and documents. There are also transcripts of relevant political speeches, interviews, and various hearings.

Jekyll-Island-Club

In 1910, Aldrich met with Frank Vanderlip of National City Bank (Citibank), Henry Davison of Morgan Bank, and Paul Warburg of the Kuhn, Loeb Investment House secretly. They met at Jekyll Island, a resort island off the coast of Georgia, to discuss and formulate banking reform, including plans for a form of central banking that would accomplish the role of J.P. Morgan played during the Panic of 1907. They held the meeting in secret because the participants knew that the House of Representatives would reject any plan they generated given the intense hatred of the bankers and Wall Street in the festering Marxist/Progressive atmosphere.

Unfortunately, because this meeting was in secret involving Wall Street, the whole Jekyll Island affair remains cloaked in conspiracy theories. Nevertheless, this intense bias and conspiracy theory has always overestimated both the purpose and significance of the meeting in light of the extensive work of the National Monetary Commission. Reform was essential. However, those two words – political economy – could not be divorced.

JacksonBankWar

Upon his return, Aldrich’s investigation led to his plan in 1912 to bring central banking to the United States with all its promises of financial stability and expanded international roles in trade and money flow. Aldrich knew the dangers of American politics and insisted that control by impartial experts was essential. Placing bankers at the helm rather than politicians was really the only way to proceed. The two words, political economy, had to be divorced in his mind. There was to be absolutely NO political meddling in finance as had been the case under Andrew Jackson (1757-1845). Aldrich asserted that a central bank was essential yet the diversity and size of the United States presented a distinctly different twist to the European situation.

FirstBankOfUSA-photo

Aldrich concluded that Europe had many countries with diverse economic models. He realized that while the United States needed a central bank, paradoxically it also required simultaneous decentralization to cope with both the economy and the self-defeating American political system. Aldrich appreciated the fact that local politicians and bankers would attack the central banks, as they had the First and Second Bank of the United States. Aldrich introduced his brilliant plan in 62nd and 63rd Congresses (1912 and 1913). As always, the political winds changed and the Democrats in 1912 won control of both of the House and the Senate as well as the White House.

The Aldrich Plan proposed a system of fifteen regional central banks, called National Reserve Associations, whose actions were to be coordinated by a national board of commercial bankers to do NO more than be a lender of last resort as J.P. Morgan had acted during the Panic of 1907. The National Reserve Association would make emergency loans to member banks, they would create money to provide an elastic currency that enabled equal exchanges for demand deposits, and would act as a fiscal agent for the federal government. Congress ended up rejecting Aldrich’s idea, which was defeated in the House as politics superseded the national good. However, his outline did become a model for a future implemented bill. The problem with the Aldrich Plan was that it gave bankers control over the regional banks, a prospect that did not sit well with the populist Democratic Party or with President Wilson. The Democrats and Wilson were fearful that the reforms would grant more control of the financial system to bankers and the politicians could not meddle as they saw fit. The history of the First and Second Bank of the United States was repeating. The political economy cannot be divorced.

Elastic

The need for a central bank was really far too great and even the Democrats recognized it behind closed doors. Eventually, the Federal Reserve Act passed 43-25 and this altered the actual role of currency. MONEY was now becoming “elastic” for the Federal Reserve would issue currency notes thereby creating a money supply that increases and decreases as the economy expands and shrinks. This new “Elastic Money” would become an essential function of the Federal Reserve System in its early days, where it would regulate the amount of money supply permitted to be in circulation. This was essential due to the wild swings during the 19th century in the economy caused by the chance discoveries of gold in California, Alaska, and silver that disrupted the economy and arbitrarily increased the money supply with nobody in charge.

Gold-Fluctuated

Effectively, the 20th century saw unrestrained printing of paper dollars caused by political fiscal mismanagement whereas the 19th century was plagued by chance discoveries of precious metals that had the same effects. The California Gold Rush injected a huge wave of inflation because the sheer supply of money increased sharply. The same argument that paper money has caused inflation during the 20th century applied to gold during the 19th century.

1914FederalReserveNotes

Essentially, this new ability to have an Elastic Money Supply became a perceived necessity to ensure that the reserves held in trust by the government were adequate to back the amount of coins and currency permitted to circulate. It was a nonpartisan decision to deal with shifts in the economy whereas politicians could not be responsible no matter what. The Federal Reserve would now prevent excessive conditions that would lead the country into financial chaos and ultimate ruin as nearly took place during the Panic of 1907. The Fed would expand the money supply during periods of economic decline and contract the money supply during economic booms. Of course, the politicians would later seize control of the Fed and ensure it would be party time all the time.

Optimal monetary policy is supposed to facilitate exchange within the economy to avoid aggregate shocks that affect individuals and economic sectors (industries) unequally. Exchange may be conducted using either bank deposits that some see as “inside money” or “fiat” currency, which some refer to as “outside money” that is created by leverage or fractional banking. A central monetary authority both controls the stock of “outside money” and pursues an interest rate policy that is intended to affect the rate at which private banks create “inside money”. The modern context views it as the optimal monetary policy, requiring management of both interest rates and the quantity of outside money. By controlling interest rates the monetary authority can affect the price level in the short-run and adjust households’ consumption, so they believe, and therefore this provides insurance against unfavorable aggregate shocks to the money supply tempering the boom-bust cycle.

Assassination-of-Archduke-Franz-Ferdinand-of-Austria-2

However, the feasibility of manipulating the interest rate policy and the quantity of money, as we will see, is purely a fantasy in the new modern global economy. These concepts quickly proved to be far too parochial. The global economy was about to receive a major shock that would turn it on its head – World War I which began July 28th, 1914 and lasted until November 11th, 1918. The war involved more than 70 million military personnel, including 60 million Europeans, and a loss of more than 9 million soldiers killed in combat. The assassination of Archduke Franz Ferdinand of Austria on June 28th, 1914 was the excuse for the war, but in reality, it was the culmination of centuries of contests for imperialistic power in Europe. Ferdinand was the heir to the Austria- Hungarian Empire throne, which was the remnant of the Holy Roman Empire. This allowed the hatred between many rivals bringing into the conflict the German Empire, Ottoman Empire, Russian Empire, British Empire, French Empire, and Italy. In the end, the Financial Capital of Europe, which migrated from Babylon to Athens, then Rome, Byzantine, Northern Italy centered in Florence/Genoa/Venice, to Amsterdam, and then to London in 1689, now migrated to the United States beginning in 1914.

With World War I, the American politicians began to alter the Fed. Its original design was brilliant. To stimulate the economy and suppress unemployment, they would buy corporate paper. With World War I, Congress ordered the Fed to support the US debt. They would not return to the original design of the Fed set out in 1913.

1931-SovDebtDefault

With the Great Depression, the major banking collapse took place largely due to the Sovereign Debt Default of 1931. Banks failed as money vanished from circulation collapsing the velocity. Asset values collapsed and land, which had sold for $2.50 an acre during the mid-1800s, fell to 10 cents. No degree of limiting fractional banking would save the day when the bond market collapses. We see the huge spike in foreign bonds listed in 1928 on the NYSE, and the collapse as defaults began to rage from 1931 onward.

FDR-New-Deal-Cartoon

 

Franklin Roosevelt, every much a socialist as Teddy even though a Democrat, altered the Fed usurping all power to Washington. The branches remained, but they no longer served the purpose of managing the local economy. It was now one-size-fits-all. It would be Congress who appoints the directors and Fed Chairman, while the technical ownership of a rescue fund for bankers is only there in name, not reality. Goldman Sachs switched tactics and installed its people in the Treasury not for banking, but for trading. They were Obama’s biggest contributors, but make no mistake: Goldman Sachs is a trader, not a bank with branches taking deposits from little old ladies.

Today, the Fed is nothing like its original intended design. This alter was not caused by bankers, but by politicians. Now, it has the authority to take over anything it thinks is too big to fail, which is not limited to banks. It could take over Google, McDonalds, or anything as long as it states it would harm the economy.

We need a central bank, but not one manipulated by government. There should be a simple insurance fund for banks as originally intended without using taxpayers’ money. It should not be restricted to buying government debt. Instead, it should protect jobs by its original focus to buy corporate paper in times of stress. We must look closely at the Fed to see that its manipulation by Congress for political reasons. It was supposed to support government bonds during World War II, but it took until 1951 to rescind.

The Fed is not evil, but rather it is the manipulation of the Fed by politicians. It is use to blame for economy booms and busts while Congress avoids all responsibility. Now, the Fed is stuck in a very difficult situation. It is charges with Keyensian/Marxist ideas of manipulating the economy when its original design was only to deal with a banking crisis.

Tomorrow we will look at the risks we now face from the REALITY of political manipulation of the Fed.

Greece’s Debt Cut to CCC

Greece-Parthenon
Greece’s debt is now cut to CCC in preparation for an eventual default. Brussels just cannot think out of the box. There will be no solution until the thinking paradigm is changed. I previously wrote:

With the economy turning down, the pain threshold will rise. The lack of liquidity will be a huge problem if everyone in dollar debt begins to scramble to cover their dollar shorts of nearly $15 trillion+ in external dollar loans. This can send the dollar soaring and yet there will be no offers. Banks have reduced dealing lines and this entire situation is looming as a perfect storm in the months ahead.

Liquidity has collapsed and trading lines have been cut at banks in New York and London. The amount of dollar debts by non-domestic issuers has exceeded $15 trillion posing a huge risk. Should the dollar rise, there will be a serious currency panic. If they try to buy dollars to hedge the risk, they will most likely all act at once and in the scramble we can still see the dollar rally sharply.