There is No Such Thing as a Bank LoanBy John Médaille for FRONT PORCH REPUBLIC
“Dexia” is not a word familiar to most Americans, and if told that it is a French bank in need of a fresh bailout, the knowledge would likely elicit no more than a yawn. Interest might increase, however, if they were told that the American taxpayer has bailed this bank out before and is likely to do so again.
It is a little-known fact that European banks received $30 billion in bailout money, using AIG as a conduit. But this was only part of the bailout, as the Federal Reserve opened up its lending to foreign banks, with Dexia alone getting $59 billion. But just as the AIG bailout was in part a stealth bailout of European banks, so will the European bailout of Dexia be a stealth bailout of American banks such as Goldman Sachs and JP Morgan-Chase, to whom Dexia owes a pile of money, money that will come from some government, most likely ours. Indeed, the same practices which brought the banking system to a standstill have continued unabated, both here and around the world. The same weapons of Financial Mass Destruction that were prevalent then are prevalent now. Now as then, the banksters prefer the game of gambling to the hard work of lending.
To the obvious question, “How could the banks make the same mistake twice?” the obvious answer is, “What mistake?” The actions of the banksters were and are quite rational, given the system we have, and they have profited handsomely from both the bubble and the bust. In truth, the only ones who profited from the bust were the ones who caused it. The “Too Big To Fail” banks are bigger than before, having used government money to buy out smaller competitors. It would not be true to say that the banksters learned nothing; rather they learned what they already knew: that they could take insane risks, pocketing the gains and socializing the losses. The only “change” is that things are more like they were than they ever were before. The results, of course, will be the same.
The Obama administration was quickly captured by the banks even before it took office, and two of the banks’ greatest apologists received key posts in the new administration, Larry Summers and Timothy Geithner, men who were up to their necks in responsibility for the policies which caused the crash. “Reforms” were sidetracked by this duo even before they reached the Congress, and what did emerge, despite the length of the bills, were no more than nibbling at the edges in a process that was largely controlled by the banksters themselves.
To be fair, it is quite true, as apologists for the bailouts have argued, that without some action there would have been a complete failure of the financial system leading to a deep depression. But it is certainly not true that the bailouts had to take the form they did, a form that led to no reforms. In fact, there could have been many reforms to strengthen the system, such as breaking up the TBTF banks and selling them to the regional banks. (To be fair, there was a plan in the administration to break up Citibank, but it was “slow-walked” to death by Summers and Geithner.)
But there is one reform that should have been done, and eventually must be done: a Jubilee, that is, a system-wide debt forgiveness, the full or partial write-off of the loans which cannot, in any case, be paid. The Jubilee is mentioned in the Bible (Lev. 25: 8-55) but the custom actually goes back to the Babylonians, where the king would, from time to time, right the financial system by declaring an end to all debts.
Many, of course, will have doubts that we can draw any relevant lessons from the Bible about today’s sophisticated financial world. The neo-conservative Michael Novak, for example, notes that the economy of the biblical nations was “an economy of caravans and traders,” and biblical writers “did not envision questions of political economy we face today.” But while they may indeed have been camel-jockeys, that only means they were realists, since nothing is as real, or as ridiculous, as a camel. And as realists, they understood the greed that lies in the hearts of men, greed that impels them to manipulate markets. And when so much debt had been accumulated that the markets could no longer function, then mere realism compelled them to forgive debts to get the market going again.
All that being said, however, we can ask whether even a biblical sanction is enough to force us to forgive debts. Christian charity might encourage us to do so, but can the law compel us? And Church may counsel such generosity, but cannot command it. If you loan me $1,000, that money represents your labor and the natural law proclaims that I must replace it, even if I must skip meals or take some extra work to do so. And if the natural law proclaims it, can positive law contradict it?
To answer this question, we must ask what a loan is, for I take a loan to mean the voluntary and temporary transfer of something that was within ownership of one person to another person. And isn’t that what happens in a bank loan? We give our money to the bank, and the bank lends it out to others, sharing some of the profit with us. The answer is no, that is not what a bank does. In fact, there is no such thing as a bank loan. This might come as a surprise to all of us who have a note on our homes, or cars or credit cards. But in truth, banks do not lend money, they create it. In order to understand this, we will have to delve into the mystery of money-creation.
Henry Ford once said that if the public understood how money was created, “there would be a revolution before breakfast.” And what is this process that Ford found so appalling? It is simply this: before you sign the mortgage to buy your home, the note to buy your car, or the credit slip to buy a hamburger, the money to buy the home, the car, the burger does not exist; it comes into existence by the very act of borrowing it. The bank does not lend out the money it receives in deposits; this it holds as a reserve against losses, in a process known as “fractional reserve banking.” The money you deposit is the “fractional reserve,” and against this reserve they lend 10 times as much which they create ex nihilo, by pressing a few buttons on a computer. A banker will never lend reserves. Indeed, a bankster is more likely to lend you his wife than the bank’s reserves: it is merely immoral to lend his wife; it is illegal to lend the reserves. And in banking, morality counts for little.
98% of the money supply is created by the banks as loans; the government creates only the coinage. Some might say that the government “owns” its own bank, the Federal Reserve, which can also create money. However, the government does not own the Fed. The Federal Reserve is a system of 12 regional banks that are owned by all of the federally chartered banks in their regions. These banks in turn own the Federal Reserve System in proportion to the size of the regional banks. The New York Federal reserve owns the majority of shares in the Federal Reserve System, which is why the President of the New York Fed always sits as Vice-chairmen of the Federal Reserve. And the controlling interest in the New York Fed is held by Citibank and JP Morgan-Chase, which means that the whole monetary system is mainly responsive to the needs of two New York City banks. With this is view, it is easy to see why Geithner “slow-walked” the break up of Citibank; Timothy was President of the New York Fed before he became Secretary of the Treasury.
Some might object at this point that while the regional Federal banks are owned by the member banks, in fact the President appoints the majority of directors of the Federal Reserve System. This is true, but they are appointed for fixed terms; the President does not get to change them as he does, for example, cabinet officers. And presidents have shown themselves to be “sensitive” to the banksters when making appointments for the sake of “peace” with Wall Street; we wouldn’t want to rile the markets with truly independent directors, would we?
What presidential appointment really accomplishes is the provision of political cover for what is, in actuality, a system of private banks that has a legal monopoly on money creation. Whatever these gentlemen decide to fund gets funded, with money created out of nothing. And Oh! What things they fund! It was not just the housing bubble, and the attendant sub-prime market. These housing loans, from ex nihilo money, they sold as “MBSs” to investment banks and hedge funds, who bought them with money borrowed from the banks. The MBSs were sliced and diced into CDOs, and sold to other investors, with money borrowed from the banks. These in turn combined them into CDOs squared and cubed, and sold them to investors with money borrowed from the banks. Or the CDOs would be combined with CDSs to form Synthetic CDOs, and sold to other hedges, investment banks, and investors, who bought them with money created by the banks. Never mind what all the intials mean; they only mean that the banks created a vast series of loans starting with a single underlying asset, a mortgage loan. And the hedge funds and investment banks that bought this alphabet soup of paper were “leveraged” at anywhere from 30:1 to 60:1. This means that they bought these “assets” with a down payment of somewhere between 1.7% and 3.3%. Thus, through the miracle of modern finance and based on one mortgage, a whole series of loans were made with manufactured money. As Wendell Berry put it, it was a process of “selling a bet on a debt as an asset.” And it allowed the financial system to perform the positive miracle of taking a $1.6 trillion sub-prime market and turning it into a $30 trillion loss.
The method of creating money through loans at interest has some grave consequences. Since every dollar represents a debt, and every debt carries an interest charge, there must be an infinite series of loans to pay off any debt. Suppose a loan of $1,000 at 10% simple interest for a year. At the end of the year, the borrower must pay $1,100. The loan created the $1,000, but not the $100 interest. This presumes that somebody else borrows $100 to pay back $110, which presumes someone else borrows $10 to pay back $11, etc. This means that credit must always expand to service the existing debts. But since infinite expansion is impossible, the system must periodically contract to wipe out at least some debts. In this way, financial crises are written into the DNA of a debt-money system.
Whatever one thinks of the system, and whatever arguments one advances for or against it, the indisputable truth is that the creation of money ex nihilo does not fall under the same moral description as when men lend each other their hard-earned money. The bank “loan” is not really a loan at all, not really a transfer of hard-earned assets, but a legal arrangement giving enormous monopoly powers to a relatively small group of men. Since the “right” rests only on positive law and not natural law, it may be changed by positive law. It is a monopoly granted, presumably, for the public convenience and necessity, and when it is no longer convenient—and certainly not necessary—it may be changed without harm to the natural law.
People like Michael Novak may think of the ancient Jews and Babylonians as mere “camel-jockeys,” but in fact they were shrewd men of business. They understood that debts tend to accumulate over time, until they clog the system and make business impossible or at best hamper prosperity. They realized that the only way forward was simply to wipe the slate clean and start all over again.
We will have a jubilee, one way or another, because the debts that can’t be paid won’t be. But it is better to do it under our terms than under those of the banksters. Mortgage debt should be written down to reflect the market value of the houses, since it was the splurge of money creation that drove the prices up to begin with. Credit card debt should be written down, especially older debt on which significant payments have already been made in the form of usurious interest rates, rates that often exceeded 30%. And student debt should be re-examined and the whole system of educational finance revamped. Real financial reform should be undertaken; what we have is laws with 1 page of regulatory authority followed by 500 pages of exceptions and loopholes. The simple Glass-Stegall act should be re-instated, the act which separated commercial banking from investment banking and safe-guarded the system for 70 years.
This is also a good time to re-examine the way we create money and the Federal Reserve System itself. Does it really have to be a government-guaranteed private monopoly? I believe there are better alternatives. These things will come about, one way or another. But I suspect they will not come about until after the collapse. And that collapse is fast upon us. The European banks are in a race with the Chinese banks to see which can collapse first, and the collapse of either will bring our system down. We cannot forever play the game of bailing out each other’s banks, as amusing as that might be. Indeed, the banks have already received their jubilee, with their toxic assets transferred from their books onto the public accounts. And so to the argument that a jubilee can’t be done, I respond, it already has been done, but for some and not for all. Dexia will get its jubilee; our children need one as well.