
"This isn't about big government or small government. It's about
building a smarter government that focuses on what works." Barack Obama,
November 26, 2008
As
our 44th President prepares to enter the Oval Office, bank lending has
seized up, some of the nation's largest banks are on life support, and
the big three automakers are bankrupt. Housing continues to crash, and
so does the economy.
Little wonder that Obama is being compared to
Franklin D. Roosevelt, who entered the White House in similar financial
straits in 1932. Even before taking office, Obama has started his
version of the "fireside chats" (updated from radio to online video)
given by Roosevelt nearly weekly to reassure the public. He said on
November 22 that he plans to create 2.5 million new jobs by 2011 and
kick-start the economy by building roads and bridges, modernizing
schools, and creating technology and infrastructure for renewable
energy. These are excellent ideas, but what will they be funded
with-more government debt?
Obama has pledged to honor the
commitments of the outgoing administration to rescue financial markets,
on the theory that if we don't, our credit system could freeze up
completely. But as noted by Barry Ritholtz in a December 2 article, the
bailout has already cost more than the New Deal, the Marshall Plan, the
Louisiana Purchase, the moonshot, the savings and loan bailout, the
Korean War, the Iraq war, the Vietnam war, and NASA's lifetime budget
combined. [1] Increasing the debt burden could break the back of the
taxpayers and plunge the nation itself into bankruptcy.

How can
the new President resolve these enormous funding challenges? Thomas
Jefferson realized two centuries ago that there is a way to finance
government without taxes or debt. Unfortunately, he came to that
realization only after he had left the White House, and he was unable to
put it into action. With any luck, Obama will discover this funding
solution early in his upcoming term, before the country is declared
bankrupt and abandoned by its creditors.
THE KEY TO A SOLUTION: UNDERSTANDING MONEY AND CREDIT
Jefferson realized too late that the Founding Fathers had been misled. He wrote to Treasury Secretary Gallatin in 1815:
"The
treasury, lacking confidence in the country, delivered itself bound
hand and foot to bold and bankrupt adventurers and bankers pretending to
have money, whom it could have crushed at any moment."
He wrote to John Eppes in 1813:
"Although
we have so foolishly allowed the field of circulating medium to be
filched from us by private individuals, I think we may recover it ...
The states should be asked to transfer the right of issuing paper money
to Congress, in perpetuity."

It had long been held to be the
sovereign right of governments to create the national money supply,
something the colonies had done successfully for a hundred years before
the Revolution. So why did the new government hand over the
money-creating power to private bankers merely "pretending to have
money"? Why are we still, 200 years later, groveling before private
banks that are admittedly bankrupt themselves? The answer may simply be
that, then as now, legislators along with most other people have not
understood how money creation works. Only about 3% of the U.S. money
supply now consists of "hard" currency-coins (issued by the government)
and dollar bills (issued by the private Federal Reserve and lent to the
government). All of the rest exists merely on computer screens or in
paper accounts, and this money is all created by banks when they make
loans. Contrary to popular belief, banks do not lend their own money or
their depositors' money. They merely "monetize" the borrower's promise
to repay. Many creditable authorities have attested to this fact. Here
are a few:

"[W]hen a bank makes a loan, it simply adds to the
borrower's deposit account in the bank by the amount of the loan. The
money is not taken from anyone else's deposit; it was not previously
paid in to the bank by anyone. It's new money, created by the bank for
the use of the borrower."
- Robert B. Anderson, Secretary of the Treasury under President Eisenhower
"Banks
create money. That is what they are for... The manufacturing process to
make money consists of making an entry in a book. That is all... Each
and every time a Bank makes a loan... new Bank credit is created-brand
new money."
- Graham Towers, Governor of the Bank of Canada from 1935 to 1955
"Of
course, [banks] do not really pay out loans from the money they receive
as deposits. If they did this, no additional money would be created.
What they do when they make loans is to accept promissory notes in
exchange for credits to the borrowers' transaction accounts. Loans
(assets) and deposits (liabilities) both rise [by the same amount]."
- The Chicago Federal Reserve, Modern Money Mechanics (last updated 1992)

Not
only are banks merely pretending to have the money they lend to us, but
today they are shamelessly demanding that we bail them out of their own
imprudent gambling debts so they can continue to lend us money they
don't have. According to the Comptroller of the Currency, the books of
U.S. banks now carry over $180 trillion in a form of speculative wager
known as derivatives. Particularly at issue today are betting
arrangements called credit default swaps (CDS), which have been sold by
banks as insurance against loan defaults. The problem is that CDS are
just private bets, and there is no insurance commissioner insuring that
the "protection sellers" have the money to pay the "protection buyers"
if they lose. As loans have gone into default, the elaborate gambling
scheme built on them has teetered near collapse, threatening to take the
banking system down with it. Now the players are demanding that the
government underwrite their bets with taxpayer funds, on the theory that
if the banking system collapses the public will have no credit and no
money. That is the theory, but it misconstrues the nature of money and
credit. If a private bank can create money simply by writing credit into
a deposit account, so can the federal government. The Constitution says
"Congress shall have the power to coin money," and that is all it says
about who has the power to create money. It does not say Congress can
delegate to private banks the right to create 97% of the national money
supply in the form of loans. Nothing backs our money except "the full
faith and credit of the United States." The government could and should
have its own system of public banks with the authority to issue the
credit of the nation directly.
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