Today we learned the Federal Reserve made $9 trillion in emergency overnight loans from March 2008 to May 2009 in order to “keep the economy running.” Three banks, Merrill Lynch, Citigroup and Morgan Stanley account for two thirds of this lending activity. Immediately liberals and conservatives and Keynesians and Austrians jump out of their seats at the use of quotes. A grand debate invigorates them all: does it work or doesn’t it? Is it fair or isn’t it?
However, why doesn’t anyone ever ask these questions: how is it that the health of so very few firms can threaten the entire economy? Why is it that for the economy to survive, three firms need to get $6 trillion? By what wonder of modern monetary policy could the cure for recessions smack of corruption? Is it really prudent to let the economy hang on a thread attached to only a few firms?
Before addressing how banking institutions could attain such magnitudes of global importance, one should consider: is this a position that would be coveted? I think so. Think about it: the demand for an orderly economy (read: not mass starvation) is very high. If somehow you can get people to identify an orderly economy with your profit stream, that would be a very lucrative position indeed. It’s like someone thinking giving you $50 a day just to stay healthy and in the graces of God is a good idea. This is why televangelists exist: there’s a large market for people who want to believe the existence of something, anything, stabilizes the world.
Wouldn’t you want that? Wouldn’t you want people to believe your earning eight figures a year was absolutely essential to the health of the economy? People would be willing to throw money at you just to make sure it happened.
Enter the US Banks.
Enter American monetary policy.
Enter the Federal Reserve with $9 trillion in overnight emergency loans.
Get the picture?
Lots of good economists will say, “Now wait a minute, are you saying that just letting these firms fail would be good for the economy? Or that it wouldn’t hurt? That’s fucking crazy!!!” And it is. I don’t deny that if these firms had failed shit would have hit the fan and spread all over your mom’s couch like your lazy uncle. That’s precisely the point I’m trying to highlight: the health of the US economy hinges on the success of the banking sector. If it goes, so too does the economy.
How is this in any way acceptable? Would we be okay if it hinged on the health of fast food chains? Well maybe it does. Maybe that’s why the Fed made emergency overnight loans to McDonalds. McDonald’s. I didn’t even know McDonald’s had a banking wing.
Lots of people will say, “Drew, it’s the markets, dummy. See what happens when banking operations are allowed to keep insane amounts of profit? It’s the natural outcome of free markets; cartels, oligopolies, monopolies and monopsonies form and the little guys get screwed. Now don’t you see why we need more regulation?”
I guess this is a good explanation if you’re four, maybe five at the outside. Quick: name five federal laws passed in the last twenty years that deal with banking oversight. Can’t do it? Oh, and apparently you’re some sort of expert on how much government needs to regulate banking, right?
The biggest problem with “The Markets Did It” explanation at this point is everyone knows the profits these firms enjoy are subsidized by the Federal Reserve in the form of cheap loans. Look at the emergency overnight loans the Fed made. They were made at 1% – 2% (what the banks had to pay the Fed), but netted between 10% – 48% (what the firms took in as profits on relending the money acquired from the Fed’s lending facility). Those are some holy fucking shit returns in this economy—or any economy.
The alleged benefit to this practice is the liquidity provided to the overall economy by these banks, which are merely the conduits of monetary policy as directed by the Federal Reserve. Well, what a wonderful civic duty to be doing. I wonder if I’ll get paid that much if I go on jury duty. Maybe the Fed will open a Short Term Jurors’ Facility (STJF) as long as I can prove it increases aggregate demand.
This is trickle-down economics for the twenty-first century. Back in the day, we were told lowering taxes will automatically create economic activity. That’s pretty stupid since there are like 900 million other variables at play. I agree wholeheartedly with getting rid of taxes whenever and wherever I can, but not because it fits into my scientistic plan for economy building. But I digress.
There is a major difference between reduced-tax trickle down and increased-loans trickle down: the former is letting people keep something they earned (presumably) while the latter is giving people something they didn’t earn. Yet the justification springing from either trickle-down theory is this: that it benefits the economy as whole.
Some will point out that tax reductions for the rich can only provide only so much bang-for-the-buck when it comes to economic theory. That is to say, the benefits of lowered taxes trickle down is nothing compared to the benefits of the trickle down created by Federal Reserve lending.
And so we might get caught in the mire of technocratic analysis of policy and forget this very important question: why have we let the success of our economy hinge on profits trickling through fantastically rich firms that employ fantastically rich people?
The answer is amusing: the banks are the best at figuring out how to lend money and where it should go. That is to say, they are best equipped to understand where lending should be done and how to make sure the money let loose by the Federal Reserve properly maintains aggregate demand.
In an audaciously stupid attempt to placate free market ideals, the argument is that government shouldn’t be in the business of lending. It could get corrupt. Economic activity would be subject to political whimsy, which would disrupt markets severely. Yet somehow government should be in the business of lending to 30 banks all the time. How does it know that these banks are the best way to ensure proper lending? How many major asset bubbles have we been through in the past twenty years? Five? Good work, the Fed. The Goldman Sachs wins again.
The initial reason the Federal Reserve was ever created was to stop economic crises from happening due to the alleged scourges of the free market. However, a free market in banking did not exist before the Federal Reserve either, and this too lead to economic crises, just as it does today.
Some people get their britches all bunched up when I say this. How could I believe there wasn’t a free market before the Federal Reserve? What am I fucking crazy? Well, here’s a simple counter question by the same token: then what makes you believe there has been one since?
And another: is a lack of a Federal Reserve the definition of a free market in banking? Is the lack of regulations in mortgage lending a free market in banking? What sort of general equilibrium model for banking activities are you working with and what is the minimum amount of regulation that defines a free market in banking?
The usual answer: I’m not sure, but what I do know is there simply isn’t enough. Well that’s an enlightened response.
Back to the point. The Federal Reserve is created and this is supposed to prevent economic crises. How? By making sure banks have a large source of liquidity whenever it is needed. This explanation skims over the surface of the real issue: why are we equating the health of the economy with bank liquidity? Why does money equal banking and banking equal money?
In other words, why is it that monetary policy is largely defined by and done for the benefit of the banks? Is it simply because this is the best way to run an economy? Am I suggesting a conspiracy? No. I’m suggesting what happens all the time: the Fed was created by lobbyists and still exists because of lobbyists. That it created an economy where global economic health hinges on just a few banks is irrelevant to what I’m saying. Yes, they are now integral parts of the economy, but they don’t need to be. We can take our money back.
We don’t have to break them apart by law. We just have to stop subsidizing them. Allow competition to come in. Actually allow the banks to pay the debts they owe, and if they can’t, allow a process where the capital they are sitting on can actually be put to good use. But let’s not have the Fed simply hand money to them. Allow entrepreneurs to invest in the capital and put it to good use building the economy. Less giant megafirms that can offer only Mutually Assured Destruction with the American people and a larger number of smaller firms that can go belly up and not destroy the economy. This sounds more democratic to me. A free market democracy rather than a bank-subsidized corporate megalocracy.
But before any of this is possible people have to believe the Fed and the banks cannot ensure economic health in any part of the world. Only wise investments and putting capital to good use making things people want can do that. Right now people believe the health of the banks is the health of the economy, and it is true. But this is something that can and should be changed.