Chaos Magnet

Conspiracy theories and the Federal Reserve Bank

I meantioned in a previous post that I was going to look into the issue of the Federal Reserve, and whether the entire US economic system is in place to benefit eight banking families to the extent that the "national debt" is owed to this private corporation, which could foreclose if it wanted to, essentially owning all government assets.

Well, apparently this is a pretty popular conspiracy theory, 'cause there are lots and lots of pages talking about it. Of course, most of them repeat the same under-researched "facts" verbatim. And that, gentle reader, is why I hesitate to believe these things until I check them out myself.

What I've found is that the conspiracy theorists are right. And they're wrong.

The Federal Reserve Bank was established in 1914 by the Federal Reserve Act. It's owned by member banks, which is basically defined as any nationally chartered bank -- the ones with "National" or "n.a." in their names -- and any state chartered bank that wants to buy in. There are 12 main Federal Reserve Banks, each owned by the banks in their legislatively defined regions.

Now let's get to the issue of "ownership." Yes, the Federal Reserve Bank of New York is the largest and most powerful, but no, it's not owned by "foreigners" either directly or indirectly. According to Edward Flaherty's Who Owns the Federal Reserve, the owners of the Federal Reserve Bank of New York are American-owned banks. (Citicorp, one of the eight largest owners, reportedly is 8.9% owned by a Saudi prince, but supposedly none of the other banks have significant foreign ownership.)

The Federal Reserve does control monetary policy, through setting interest rates and determining how much money a bank must hold in reserve. In other words, a bank that has, say, $7 billion in accounts on paper only has to have $1 billion on hand at any given time. The rest can be lent out at interest. The control of these two policies -- interest rates and reserves -- seems to be a particularly grevious crime to the conspiracy theorists, but actually, it's the reason the Fed was created in the first place.

I found a fascinating history of US banking, Banking and the Federal Reserve System, which explained that prior to the creation of the Fed, state banks were routinely issuing more money than they could actually back with their gold reserves, leading to an unstable and in some cases, worthless currency. (For much of US history, there was no single US currency; banks issued thier own notes of various financial quality.)

Which leads me to the issue of the national debt, and why we even need one. After all, if the government needs money, why not just print some? It sounds good in principle, but one needs only to look at countries that have tried it to see that it leads to unimaginable inflation due to worthless currency. (Remember those stories about WWII-era Germans and wheelbarrows of cash to buy a loaf of bread?) In the worst cases, a national government can actually default on its debt.

In short, paper money only means something if it's backed by something tangible, even if it's several layers removed. US currency used to be backed by gold; $1 in currency could, in principle, be exchanged for $1 in gold from the US Treasury. That's no longer the case, but US currency is backed by "The full faith and credit of the US Government." In other words, the ability of the government to collect taxes. (No, I haven't looked into that one yet.)

So where does that leave us? Well, the Fed can buy a paper bill of any denomination for a few cents. I've seen 2 cents, I've seen 4 cents, the actual amount isn't important; the important thing is that the Fed can buy a $100 bill for virtually nothing. It then uses that $100 to buy a Treasury Bill, on which it earns interest. So let's say, for the sake of argument, that $100 Treasury Bill earns $10 in interest. I haven't studied T-Bills and have no idea what the actual numbers are, but again, it's not crucial to the discussion.

So the Fed spent 2 cents and came out with $110. That's some profit. I'd love a piece of that action! So what happens to all that profit?

According to the Federal Reserve Act of 1914, the Fed first deducts operating expenses (which is reasonable), then pays a 6% dividend to the member banks, (which is also almost reasonable). According to the Federal Reserve Bank of San Francisco, expenses were 5.3% ($1.59 billion out of $29.9 billion revenue), or in our example, $5.84. That leaves $107.16, less $6.43 in dividends, for $100.73 in profit.

But where does that go? Now it depends on what source you're citing, I'm afraid. According to the version of the Federal Reserve Act on the Federal Reserve web site, that profit all goes into the "surplus fund" of the Federal Reserve Bank, from which banks borrow (at interest) when they don't have enough to cover their deposits. This document also says that the amount transfered to the US Treasury in 2000 was $3.752 billion. Why would the Fed give the money to the Treasury?

Again, it depends who you ask. I have one version of the Federal Reserve Act that says that the profit, after dividends, is to be split, with one half going into the surplus fund and the other going to the Treasury. The version on the Fed's web site doesn't say anything about it, and just mentions the $3.752 billion.

Interesting, the Federal Reserve Bank of San Francisco shows the 2000 amount transferred to the treasury as $25 billion. Something's not right here.

What I think I need to do is call the Federal Reserve Bank and ask a few pointed questions. (Scroll down to the actual questions.) Allegedly, someone already did in 1992, but as already demonstrated, I like to find these things out for myself.

Once again, I'll let you know what I come up with.

In the meantime, Flaherty also notes that only 7.5% (or thereabouts) of the National Debt is owed to the Federal Reserve, which is more on a par with what I expected. So that shoots a hole in the theory that the Fed was just waiting to foreclose on the US Government.

But there is one disturbing fact that can't be escaped. There is simply not enough currency in existance to pay off the National Debt. Period. This is because of the whole "reserve" system. I take $20 and put it in the bank, and the bank lends out $120. The borrowers deposit that $120 and the bank lends out $720. From my $20, the economy suddenly has $860 -- on paper. Similarly, we have a $4 trillion national debt (in 1992 -- I have no idea what it is now) and only $263 billion in actual paper currency.

Not good. Something will have to be done. But I don't know what.

And I don't think anybody else does, either.

Technorati tags: