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CENTRAL BANKING 101: WHAT THE FED CAN DO AS "LENDER OF LAST RESORT"

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"Quantitative easing remains the only economic show in town given that Congress and President Barack Obama have been cowed into inaction.

"Quantitative easing" (QE) involves central bank purchases with money created on a computer screen.   Blanchflower asked:

"What will they buy? They are limited to only federally insured paper, which includes Treasuries and mortgage-backed securities insured by Fannie Mae and Freddie Mac. But they are also allowed to buy short-term municipal bonds, and given the difficulties faced by state and local governments, this may well be the route they choose , at least for some of the quantitative easing. Even if the Fed wanted to, it couldn't buy other securities, such as corporate bonds, as it would require Congress's approval, which won't happen anytime soon."   [Emphasis added.]

You don't need to understand all this financial jargon to pick up that a central banking insider who has sat in on the Fed's meetings says that for the Fed's next trick, it could and "may well" fund the bonds of local governments.   Harrison comments:

"The Fed can legally buy as many municipal bonds as it wants without congressional approval. . . . This is a big story. Blanchflower is essentially saying that the U.S. government can bail out both the housing market via Fannie and Freddie paper purchases and the state governments via Muni purchases. And, of course, the banks get to dump these assets onto the Fed who will hold them to maturity. I guarantee you this will have a very nice kick since it is the states where the biggest employment cuts are."

A big story indeed, opening very interesting possibilities.   The Fed could use its QE tool not just to buy existing assets but to fund future productivity and employment, stimulating the depressed economy the way Franklin Roosevelt did but without putting the nation in debt at high interest to a private banking cartel.  

The Fed could, for example, buy special revenue bonds issued by the states to finance large-scale infrastructure projects. They might build a high-speed train system of the sort seen in Europe and Asia.   The states could issue special revenue bonds at 0% or 0.5% interest to finance the project, which could be repaid with user fees generated by the finished railroad.  The same could be done to build modern hospitals, develop water projects and alternative energy sources, and so forth.   All this could be done at the same extremely low interest rates now afforded to the banks, saving the states enormous sums in taxes. 

Wouldn't that sort of program be inflationary though?   Not under current conditions, says author Bill Baker in a recent post.   He notes that over 95% of the money supply is created by bank lending, and that when credit is destroyed, the money supply shrinks.   The first round of QE did not actually increase the money supply, because the money printed by the Fed was matched by the destruction of money caused by debt default and repayment.   To replace the debt-money lost in a shrinking economy, the Fed has already elected to embark on a program of quantitative easing.   The question addressed here is just where to aim the hose.

Closing the Social Security Gap

Another interesting idea for QE3 was proposed by Ted Schmidt, associate professor of economics at Buffalo State College.   Writing in early November, Schmidt anticipated the cut in social security taxes now being debated in Congress.   Worried observers see these cuts as the first step to dismantling social security, which will in the future be called "underfunded" and too expensive for the taxpayers to support.   Schmidt notes, however, that social security is a major holder of federal government bonds.   The Fed could finance a $400 billion tax cut in social security by buying bonds directly from the social security trust fund, allowing the fund to maintain its current level of benefits.   Among other advantages of this sort of purchase:

"[I]t does not raise the gross national debt, because it simply transfers bonds from one government entity (the Social Security trust fund) to a semi-government entity (the Fed); and . . . it gives the Fed the extra ammo (treasury bonds) it will need when the time comes to restrain inflationary pressures and pull reserves out of the banking system. (It does this by selling bonds to banks.)"

Schmidt concludes: " Enough is enough, Dr. Bernanke!   It's time to inject the patient with money that gets into the hands of working people and small businesses."

The Fed's lender-of-last-resort power has so far been used only to keep rich bankers rich and the rest of the population in debt peonage, a parasitic and unsustainable endeavor.   If this power were directed into projects that increased productivity and employment, it could become a sustainable and very useful tool.   We the People do not need to remain subject to a semi-private central bank that was ostensibly empowered by our mandate.   We can take our Money Power back.

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Ellen Brown is an attorney, founder of the Public Banking Institute, and author of twelve books including the best-selling WEB OF DEBT. In THE PUBLIC BANK SOLUTION, her latest book, she explores successful public banking models historically and (more...)
 
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...to completely abolish the Federal Reserve and e... by Daniel Penisten on Sunday, Dec 19, 2010 at 6:06:34 PM
Congress always had the right to issue its own mon... by Arthur M. Howard-(Scotoni) on Tuesday, Dec 21, 2010 at 1:52:16 AM
Excellent article Dr. Brown. Too bad QE won't happ... by Robert Bostick on Sunday, Dec 19, 2010 at 6:13:00 PM
I read that the Bernanke family car is a Ford Falc... by Ellen Brown on Sunday, Dec 19, 2010 at 6:51:12 PM
The citizens of the USA have yet to challenge the ... by Tim Harney on Monday, Dec 20, 2010 at 10:36:50 AM
Why is it, Ellen, that in your book, Web of Debt, ... by Jim Eldon on Monday, Dec 20, 2010 at 11:01:47 AM
Money is used for exchange of value. The digitize... by Bernard on Monday, Dec 20, 2010 at 12:54:51 PM
Excuse me, but we have not lost sight of the fact,... by Keith Pope on Monday, Dec 20, 2010 at 12:59:01 PM
If Congress wants to "bail out" something, there's... by stevor on Monday, Dec 20, 2010 at 4:23:54 PM
email forward from American Monetary Institute....... by Arthur M. Howard-(Scotoni) on Tuesday, Dec 21, 2010 at 1:47:16 AM