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"The Global Debt Crisis: How We Got In
It And How To Get Out"
06 June 2011 By Ellen Hodgson Brown
Countries everywhere are facing
debt crises today, precipitated by the credit collapse
of 2008. Public services are being slashed and public
assets are being sold off, in a futile attempt to
balance budgets that can’t be balanced because the
money supply itself has shrunk. Governments usually
get the blame for excessive spending, but governments
did not initiate the crisis. The collapse was in the
banking system, and in the credit that it is
responsible for creating and sustaining.
Contrary to popular belief, most
of our money today is not created by governments. It
is created by private banks as loans. The private
system of money creation has grown so powerful over
the centuries that it has come to dominate governments
globally. But the system contains the seeds of its
own destruction. The source of its power is also a
fatal design flaw.
The flaw is that banks
advance “bank credit” that must be paid back with
interest, while having no obligation to spend the
interest they collect so that borrowers can earn it
again and again, as they must in order to retire the
debt. Instead, this money is invested in various
casinos beyond the borrowers’ reach. This leads to a
continual systemic need for more new bank credit
money, more debt with more interest attached, to
prevent widespread defaults and deflationary collapse.
Today this problem is
particularly evident in the EU. The Euro is a fixed
currency system that does not allow for expansion to
meet the demands of the private lending casino. The
result is that EU member nations collectively are
being crippled by debt.
There are more sustainable ways
to run a banking and credit system, as will be shown.
How Banks Create Money
The process by which banks create
money was explained by the Chicago Federal Reserve in
a booklet called “Modern Money Mechanics.” It states:
“The
actual process of money creation takes place primarily
in banks.” [p3]
“[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].” [p6]
“With
a uniform 10 percent reserve requirement, a $1
increase in reserves would support $10 of additional
transaction accounts.” [p49]
A $100 deposit supports a
$90 loan, which becomes a $90 deposit in another bank,
which supports an $81 loan, etc.
That’s the conventional model,
but banks actually create the loans FIRST. (Picture
how a credit card works.) Banks need deposits to
clear their outgoing checks, but they find the
deposits later. Banks create money as loans, which
become checks, which go into other banks. Then, if
needed to clear the checks, they borrow the money back
from the other banks. In effect, they borrow back the
money they just created, pocketing the spread between
the interest rates as their profit. The rate at which
banks can borrow from each other in the U.S. today
(the Fed funds rate) is an extremely low 0.2%.
How the System Evolved
The current system of
privately-issued money is traced in “Modern Money
Mechanics” to the 17th century goldsmiths.
People who left gold with the goldsmiths for
safekeeping would be issued paper receipts for it
called “banknotes.” Other people who wanted to borrow
money were also happy to accept paper banknotes in
place of gold, since the notes were safer and more
convenient to carry around. The sleight of hand came
in when the goldsmiths discovered that people would
come for their gold only about 10% of the time. That
meant that up to ten times as many notes could be
printed and lent as the goldsmiths had gold. Ninety
percent of the notes were basically counterfeited.
This system was called
“fractional reserve” banking and was institutionalized
when the Bank of England was founded in 1694. The
bank was allowed to lend its own banknotes to the
government, forming the national money supply. Only
the interest on the loans had to be paid. The debt was
rolled over indefinitely.
That is still true today. The
U.S. federal debt is never paid off but just continues
to grow, forming the basis of the U.S. money
supply.
The Public Banking Alternative
There are other ways to create a
banking system, ways that would eliminate its ponzi-scheme
elements and make the system sustainable. One
solution is to make the loans interest-free; but for
Western economies today, that transition could be
difficult.
Another alternative is for banks
to be publicly-owned. If the people collectively own
the bank, the interest and profits go back to the
government and the people, who benefit from decreased
taxes, increased public services, and cheaper public
infrastructure. Cutting out interest has been shown
to reduce the cost of public projects by 30-50%.
In the United States, this system
of publicly-owned banks goes back to the American
colonists. The best of the colonial models was in
Benjamin Franklin’s colony of Pennsylvania, where the
government operated a “land bank.” Money was printed
and lent into the community. It recycled back
to the government and could be lent and relent. The
system was mathematically sound because the interest
and profits were returned to the government, which
then spent the money back into the economy in
place of taxes. Private banks, by contrast, generally
lend their profits back into the economy, or
invest in private money-making ventures in which more
is always expected back than was originally invested.
During the period that the
Pennsylvania system was in place, the colonists paid
no taxes except excise taxes, prices did not inflate,
and there was no government debt.
How Private Banknotes Became the
National U.S. Currency
The Pennsylvania system was
sustainable, but some early American colonial
governments just printed and spent, inflating the
money supply and devaluing the currency. The British
merchants complained, prompting King George II to
forbid the colonists to issue their own money. Taxes
had to be paid to England in gold. That meant going
into debt to the English bankers. The result was a
massive depression. The colonists finally rebelled
and went back to issuing their own money,
precipitating the American Revolution.
In an international first, the
colonists funded a war against a major power with mere
paper receipts, and won. But the British
counterattacked by waging a currency war. They
massively counterfeited the colonists’ paper money, at
a time when this was easy to do. By the end of the
war, the paper scrip was virtually worthless. After
it lost its value, the colonists were so disillusioned
with paper money that they left the power to issue it
out of the U.S. Constitution.
Meanwhile, Alexander Hamilton,
the first U.S. Treasury Secretary, was faced with huge
war debts, and he had no money to pay them. He
therefore resorted to the ruse used in England known
as fractional reserve banking. In 1791, Hamilton set
up the First U.S. Bank, a largely private bank that
would print banknotes “backed” by gold and lend them
to the government.
The ruse worked: the paper
banknotes expanded the money supply, the debts were
paid, and the economy thrived. But it was the
beginning of a system of government funded by debt to
private bankers, who lent banknotes only nominally
backed by gold.
During the American Civil War,
President Lincoln avoided a crippling war debt by
returning to the system of government-issued money of
the American colonists. He issued U.S. Notes from the
Treasury called “Greenbacks” rather than borrowing at
usurious interest rates. But Lincoln was
assassinated, and Greenback issuance was halted.
In 1913, the privately-owned
Federal Reserve was authorized to issue its own
Federal Reserve Notes as the national currency. These
notes were then lent to the government, eliminating
the government’s own power to issue money (except for
coins). The Federal Reserve was set up to prevent
bank runs, but twenty years later we had the Great
Depression, the greatest bank run in history. Robert
H. Hemphill, Credit Manager of the Federal Reserve
Bank of Atlanta, wrote in 1934:
“We
are completely dependent on the commercial Banks.
Someone has to borrow every dollar we have in
circulation, cash or credit. If the Banks create
ample synthetic money we are prosperous; if not, we
starve.”
For the bankers, however, it was
a good system. It put them in control.
Setting the Global Debt Trap
Prof. Carroll Quigley was an
insider groomed by the international bankers. He
wrote in Tragedy and Hope in 1966:
“The powers of financial capitalism had another far
reaching aim, nothing less than to create a world
system of financial control in private hands able to
dominate the political system of each country and the
economy of the world as a whole.
“The apex of the system was to be the Bank for
International Settlements [BIS] in Basle, Switzerland,
a private bank owned and controlled by the world's
central banks which were themselves private
corporations. Each central bank... sought to dominate
its government by its ability to control Treasury
loans…."
The debt trap was set in stages.
In 1971, the dollar went off the gold standard
internationally. Currencies were unpegged from gold
and allowed to “float” in currency markets, competing
with other currencies, making them vulnerable to
speculation and manipulation.
In 1973, a secret agreement was
entered into in which the OPEC countries would sell
oil only in dollars, and the price of oil would be
dramatically increased. By 1974, oil prices had
increased by 400% from 1971 levels. Countries lacking
oil had to borrow dollars from U.S. banks.
In 1981, the Fed funds rate was
raised to 20%. At 20% compound interest, debt doubles
in under four years. As a result, most of the world
became crippled by debt. By 2001, developing nations
had repaid the principal originally owed on their
debts six times over; but their total debt had
quadrupled because of interest payments.
When debtor nations could not pay
the banks, the International Monetary Fund
stepped in with loans -- with strings attached. The
debtors had to agree to “austerity measures,”
including:
·
cutting social services
·
privatizing banks and
public utilities
·
opening markets to
foreign investors
·
letting currencies
“float.”
Today, austerity measures are
being imposed not just in developing countries but in
the European Union and on U.S. States.
The BIS: Apex of the Private Central
Banking Pyramid
What Professor Quigley foretold
about the Bank for International Settlements (BIS) has
also come to pass. The BIS now has 55 member nations
and heads the global financial pyramid.
The power of the BIS was seen in
1988, when it raised the capital requirement of its
member banks from 6% to 8% in an accord called Basel
I. The result was to cripple the Japanese banks,
which until then were the world’s largest creditors.
Japan entered a recession from which it has not yet
recovered.
U.S. banks managed to escape by
dodging the capital requirement. They did this by
moving loans off their books, bundling them up as
“securities,” and selling them to investors.
To
persuade the investors to buy them, these
mortgage-backed securities were protected against
default with “derivatives,” which were basically just
bets. The “protection seller” collected a premium for
agreeing to pay in the event of default. The
“protection buyer” bought the premium. Owning the
asset was not required. Like gamblers at a horse
race, derivative players could bet without owning a
horse.
Derivatives became a very popular form of gambling.
The result was the mother of all bubbles, exceeding
$500 trillion by the end of 2007.
Because of securitization and derivatives, credit
mushroomed. Virtually anyone who walked in the door
could get a loan.
The
tipping point came in August 2007, with the collapse
of two hedge funds. When the derivatives scheme was
exposed, the market for derivative-protected
securities suddenly dried up. But the U.S. stock
market did not collapse until November 2007, when new
accounting rules were imposed. The rules grew out of
the Basel II Accords initiated by the BIS in 2004.
“Mark to market” accounting required banks to value
their assets according to market demand that day.
Many U.S. banks, like those in Japan in the 1990s,
suddenly had insufficient capital to make new loans.
The result was a credit crisis from which the U.S. has
not yet recovered.
The BIS has now become global
regulator, just as Quigley foresaw. In April 2009,
the G20 nations agreed to be regulated by a Financial
Stability Board based in the BIS, and to comply with
“standards and codes” set by the Board. The codes are
only guidelines, but countries that fail to comply
risk downgrades in their credit ratings, something so
costly that the guidelines have effectively become
laws.
An article on the
BIS website
states that central banks in the Central Bank
Governance Network should have as their single or
primary objective “to preserve price stability.” That
means governments should not devalue the national
currency by inflating the money supply; and that means
not “printing money” or borrowing credit created by
their own central banks. Like the American colonies
after King George took away their power to issue their
own money, governments must fund their deficits by
borrowing from private banks. The bankers’ global
control over currency issuance has become virtually
complete.
The effects of this policy are
particularly evident in the European Union, where EU
rules allow deficits of only 3% of government budgets
and prevent member countries from either issuing their
own money or borrowing credit advanced by their own
central banks. Member nations must borrow instead
from the European Central Bank, private international
banks, or the IMF. The result has been forced
austerity measures, as seen in Greece and Ireland.
The system is so unsustainable that commentators are
predicting that the EU may break up.
The Way Out: Return the Money Power
to Public Control
To escape the debt trap of the
global bankers, the power to create the national money
supply needs to be restored to national governments.
Alternatives include:
·
Legal tender issued
directly by national treasuries and spent on national
budgets.
·
Publicly-owned central
banks empowered to advance the nation’s credit and
lend it to the government interest-free.
·
Nationalization of
bankrupt banks considered “too big to fail” (after
expunging or writing down bad debts on inflated bubble
assets). These banks could then issue credit to the
public and serve the public’s banking needs, with the
profits recycling back to the government, defraying
the tax burden on the people.
·
Publicly-owned local
banks (state, provincial, or municipal).
Publicly-owned banks have been successfully
established and operated in many countries, including
Australia, New Zealand, Canada, Germany, Switzerland,
India, China, Japan, Korea, and Malaysia.
In the United States there is
currently only one state-owned bank, the Bank of North
Dakota. The model, however, has proven to be highly
successful. North Dakota is the only U.S. state to
have escaped the credit crisis unscathed. In 2009,
while other states floundered, North Dakota had its
largest budget surplus ever. In 2008, the Bank of
North Dakota (BND) had a return on equity of 25%.
North Dakota has the lowest unemployment rate in the
country and the lowest default rate on loans. It also
has the most local banks per capita.
North Dakota has had its own bank since 1919, when
farmers were losing their farms to the Wall Street
bankers. They organized, won an election, and passed
legislation. The state is required by law to deposit
all its revenues in the BND. Like with the
sustainable model of the bank of colonial
Pennsylvania, interest and profits are returned to the
government and to the local economy.
A growing movement is afoot in the United States to
copy this public banking model in other states.
Fourteen U.S. state legislatures have now initiated
bills for state-owned banks.
The model could also be replicated in other
countries. In Ireland, for example, where the major
banks are insolvent and are already nationalized or
soon will be, the government could deposit its
revenues in its own publicly-owned banks, add
sufficient capital to meet capital requirements, and
leverage these funds to create interest-free credit
for its own local needs. That is exactly what
Alexander Hamilton did when faced with government
debts that were impossible to repay: he put the
government’s existing funds in a bank, then borrowed
the money back several times over, employing the
accepted “fractional reserve” model.
Japan’s solution is also a variant of what Alexander
Hamilton proposed two centuries earlier. Japan
retains its status as the third largest economy in the
world although it has a debt to GDP ratio of 226%.
Japan has “monetized” the national debt, turning it
into the national money supply. The government-owned
Bank of Japan holds Japanese government debt equal to
100% of the nation’s GDP; and because the government
owns the bank, this loan is interest-free and can be
rolled over indefinitely. An interest-free loan
rolled over indefinitely is the equivalent of issuing
money.
Ellen Brown is an attorney and president of the Public
Banking Institute,
http://PublicBankingInstitute.org. In Web of
Debt, her latest of eleven books, she shows how
the power to create money has been usurped from the
people, and how we can get it back. Her websites are
http://webofdebt.com and
http://ellenbrown.com
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