Monetize This! A better way to fund the stimulus package

"The Federal Reserve Banks create money out of thin air to buy Government Bonds from the U.S. Treasury . . . [creating] out of nothing a . . . debt which the American people are obliged to pay with interest."

Patman was outraged at the inequity of this practice and boldly agitated for Congress to nationalize the privately-owned Federal Reserve, a move that would have allowed the government to issue the national money supply directly.  Needless to say, however, this proposal met with strong opposition.  Nationalization did not happen, but the Fed did have to compromise.  According to Jerry Voorhis:

"As a direct result of logical and relentless agitation by members of Congress, led by Congressman Wright Patman as well as by other competent monetary experts, the Federal Reserve began to pay to the U.S. Treasury a considerable part of its earnings from interest on government securities.  This was done without public notice and few people, even today, know that it is being done.  It was done, quite obviously, as acknowledgment that the Federal Reserve Banks were acting on the one hand as a national bank of issue, creating the nation's money, but on the other hand charging the nation interest on its own credit – which no true national bank of issue could conceivably, or with any show of justice, dare to do."

Voorhis went on, "But this is only part of the story.  And the less discouraging part, at that.  For where the commercial banks are concerned, there is no such repayment of the people's money."  Commercial banks, he explained, do not rebate the interest, although they also "'buy' the bonds with newly created demand deposit entries on their books – nothing more."6

Voorhis noted that the Constitution provides, "Congress shall have the power to coin money [and] regulate the value thereof."  Whether "to coin money" means "to issue money" has been debated; but as President Andrew Jackson observed, if anyone was given the power to issue money, it was Congress, not a private banking elite.  For a full century before the American Revolution, the colonists funded a period of unprecedented prosperity and productive enterprise with paper money issued directly by their own local governments or government-owned banks.  According to Benjamin Franklin, it was chiefly to get that power back after King George halted the practice that the colonists fought the Revolution.7  They won the war but lost the money-creating power to a private banking cartel.  We the people now have an opportunity to get that innovative funding system back, and we can do it without having to convince a faction-ridden Congress that they need to do anything so controversial as nationalizing the Federal Reserve or even passing new legislation.  All that is required is a shift in emphasis, a shift the Federal Reserve has been making lately itself.  The Fed routinely turns government bonds into dollars in order to expand the amount of currency in circulation; it has now begun doing that with corporate debt; and Fed officials are talking about doing it with long-term federal securities.  According to a January 28, 2009 Associated Press report:                                                        

"With its key lending rate to banks already near zero, the Fed pledged anew to use 'all available tools' to revive the economy.  Specifically, the Fed said it is 'prepared' to buy longer-term Treasury securities if the circumstances warrant such action."8 

Traditionally, government debt has been "monetized" by the Fed only to provide the bank reserves necessary to cover check cashing and clearing.  This tool is now being recommended "to revive the economy."  Obama's stimulus package is also intended to revive the economy.  Combine the two and you have a package that stimulates the economy without adding to the impossible burden of an exponentially-increasing debt.

But Wouldn't That Be Inflationary?

The usual objection to funding the government with credits drawn on its own central bank is that the result would be inflationary.  However, the scenario most feared today is actually deflation – a lack of available dollars to fuel the economy.  Asset values have collapsed, and savings have collapsed along with them.  People with only half as much money in their brokerage accounts have less to spend; people whose houses have plummeted in value cannot take out consumer loans against equity as was done in the boom years.  Funding a "stimulus" package with existing money that is merely recycled through the banking system as loans will not stimulate the economy but will only add to the problem, by adding to the collective burden to service debt.  Money that should have gone into more productive endeavors will wind up going into interest payments.  To bolster demand and stimulate production, recovery requires an infusion of new dollars – dollars that can be used to pay wages and salaries, which can then be used to buy goods and services. 

In any case, adding new money to the money supply will not inflate prices if the money is used in the production of new goods and services.  Price inflation results only when "demand" (dollars) exceeds "supply" (goods and services).  If the new dollars are used to create new goods and services, demand and supply will rise together and prices will remain stable.  If the goods being produced are income-generating assets – railroads, bridges, alternative energy sources, low-cost housing, medical services – so much the better.  The projects can be "monetized" in the same way that banks monetize mortgages – by entering them as assets on one side of their books and as liabilities on the other.  The funds received from the central bank can then be repaid to the central bank from the income the assets produce, extinguishing the debt and avoiding inflation.  Ideally, the projects would actually turn a profit, generating income for the government and reducing the tax burden on the public. 

The bottom line is that we cannot borrow our way out of debt.  Only new money will stimulate a debt-ridden economy – money that is interest-free and does not have to be paid back.  The direct road to that result would have been to nationalize the Federal Reserve and return the power to create money to Congress; but as Wright Patman found, that solution is controversial and could be a difficult piece of legislation to get passed.  In the meantime, the same result can be achieved by tapping into the government's nearly-interest-free credit line at the Federal Reserve.  Nearly-interest-free loans of accounting-entry money that never has to be paid back are a source of debt-free liquidity that can be used to fund projects that put people back to work, without increasing the interest burden on the government or the tax burden on the public.

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