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OpEdNews Op Eds    H1'ed 1/10/20

The Fed Protects Gamblers at the Expense of the Economy

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The main entrance to the Federal Reserve Building in Washington, D.C.
The main entrance to the Federal Reserve Building in Washington, D.C.
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Although the repo market is little known to most people, it is a $1-trillion-a-day credit machine, in which not just banks but hedge funds and other "shadow banks" borrow to finance their trades. Under the Federal Reserve Act, the central bank's lending window is open only to licensed depository banks; but the Fed is now pouring billions of dollars into the repo (repurchase agreements) market, in effect making risk-free loans to speculators at less than 2%.

This does not serve the real economy, in which products, services and jobs are created. However, the Fed is trapped into this speculative monetary expansion to avoid a cascade of defaults of the sort it was facing with the long-term capital management crisis in 1998 and the Lehman crisis in 2008. The repo market is a fragile house of cards waiting for a strong wind to blow it down, propped up by misguided monetary policies that have forced central banks to underwrite its highly risky ventures.

The Financial Economy Versus the Real Economy

The Fed's dilemma was graphically illustrated in a Dec. 19 podcast by entrepreneur/investor George Gammon, who explained we actually have two economies the "real" (productive) economy and the "financialized" economy. "Financialization" is defined at Wikipedia as "a pattern of accumulation in which profits accrue primarily through financial channels rather than through trade and commodity production." Rather than producing things itself, financialization feeds on the profits of others who produce.

The financialized economy including stocks, corporate bonds and real estate is now booming. Meanwhile, the bulk of the population struggles to meet daily expenses. The world's 500 richest people got $12 trillion richer in 2019, while 45% of Americans have no savings, and nearly 70% could not come up with $1,000 in an emergency without borrowing.

Gammon explains that central bank policies intended to boost the real economy have had the effect only of boosting the financial economy. The policies' stated purpose is to increase spending by increasing lending by banks, which are supposed to be the vehicles for liquidity to flow from the financial to the real economy. But this transmission mechanism isn't working, because consumers are tapped out. They can't spend more unless their incomes go up, and the only way to increase incomes, says Gammon, is through increasing production (or with a good dose of "helicopter money," but more on that later).

So why aren't businesses putting money into more production? Because, says Gammon, the central banks have put a "put" on the financial market, meaning they won't let it go down. Business owners say, "Why should I take the risk of more productivity, when I can just invest in the real estate, stock or corporate bond market and make risk-free money?" The result is less productivity and less spending in the real economy, while the "easy money" created by banks and central banks is used for short-term gain from unproductive financial investments.

Existing assets are bought just to sell them or rent them for more, skimming profits off the top. These unearned "rentier" profits rely on ready access to liquidity (the ability to buy and sell on demand) and on leverage (using borrowed money to increase returns), and both are ultimately underwritten by the central banks. As observed in a July 2019 article titled "Financialization Undermines the Real Economy":

"When large highly leveraged financial institutions in these markets collapse, e.g., Lehman Brothers in September 2008, central banks are forced to step in to salvage the financial system. Thus, many central banks have little choice but to become securities market makers of last resort, providing safety nets for financialized universal banks and shadow banks."

Repo Madness

That is what is happening now in the repo market. Repos work like a pawn shop: the lender takes an asset (usually a federal security) in exchange for cash, with an agreement to return the asset for the cash plus interest the next day unless the loan is rolled over. In September 2019, rates on repos should have been about 2%, in line with the fed funds rate (the rate at which banks borrow deposits from each other). However, repo rates shot up to 10% on Sept. 17. Yet banks were refusing to lend to each other, evidently passing up big profits to hold onto their cash. Since banks weren't lending, the Federal Reserve Bank of New York jumped in, increasing its overnight repo operations to $75 billion. On Oct. 23, it upped the ante to $165 billion, evidently to plug a hole in the repo market created when JPMorgan Chase, the nation's largest depository bank, pulled an equivalent sum out. (For details, see my earlier post here.)

By December, the total injected by the Fed was up to $323 billion. What was the perceived danger lurking behind this unprecedented action? An article in The Quarterly Review of the Bank for International Settlements (BIS) pointed to the hedge funds. As ZeroHedge summarized the BIS' findings:

"[C]ontrary to our initial take that banks were pulling from the repo market due to counterparty fears about other banks, they were instead spooked by overexposure by other hedge funds, who have become the dominant marginal and completely unregulated repo counterparty to liquidity lending banks; without said liquidity, massive hedge fund regulatory leverage such as that shown above would become effectively impossible."

Hedge funds have been blamed for the 2008 financial crisis, by adding too much risk to the banking system. They have destroyed companies by forcing stock buybacks, asset sales, layoffs and other measures that raise stock prices at the expense of the company's long-term health and productivity. They have also been a major factor in the homelessness epidemic, by buying foreclosed properties at fire sale prices, then renting them out at inflated prices. Why did the Fed need to bail these parasitic institutions out? The BIS authors explained:

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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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9 people are discussing this page, with 13 comments  Post Comment


Michael Dewey

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What if we just cut all rents by 80%? Helicopter money guess would be involved, at first, in my wish for world wide year of jubilee party to figure out how to get enough food on all tables.

Submitted on Saturday, Jan 11, 2020 at 12:05:20 AM

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Ellen Brown

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That would work if the landlords were paid in helicopter money; otherwise you'd have a landlord rebellion on your hands -- right to private property and all (which is where Michael Hudson says the ancient Greeks and Romans went wrong). Another option would just be a universal basic income, which would be more fair. Otherwise people struggling to make mortgage payments would object, "where's my handout?" Also the struggling students living with mom and dad who don't pay rent, etc.

Submitted on Saturday, Jan 11, 2020 at 11:50:32 AM

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Michael Dewey

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Reply to Ellen Brown:   New Content

How about from the good of their hearts, those with the $30 trillion hoarded in the Cayman Islands was invested in workers buy into worker owned companies, or like cities buy the cable companies as a Public Utility run through public bank at the Post office, funding local needs.

Submitted on Saturday, Jan 11, 2020 at 6:58:59 PM

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Don Smith

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These articles about finance are usually hard to read. It takes some serious study to understand what's going on. Ellen Brown seems good at explaining. It whets my appetite to understand it better.

Submitted on Saturday, Jan 11, 2020 at 6:58:29 AM

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Ellen Brown

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Thanks Don! That's what I try to do, be readable. Hard tho sometimes!

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lila york

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Ms. Brown - I don't know if you follow Charles Hugh Smith. Here is a recent piece on financialization and globalization, and how they have destroyed the middle class. I would bet that he follows your work. .oftwominds.com/blog.html

Submitted on Saturday, Jan 11, 2020 at 2:14:54 PM

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Is this the piece you refer to? .oftwominds.com/blogjan20/marx1-20.htmlCharles Hugh Smith is unfamiliar to me. It seems, from the link, that he is an investment advisor. Is that true?

Best regards,

Jerry Lobdill

Submitted on Sunday, Jan 12, 2020 at 6:00:22 PM

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Lance Ciepiela

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When the federal government borrows money that it does not have and spends it into the economy that boosts economic activity. But at the same time it makes our long-term financial problems even worse.

We once derided Obama as the 'king of debt'." But at this point in his presidency Trump seems to have happily inherited the mantle.


Submitted on Saturday, Jan 11, 2020 at 4:01:03 PM

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911TRUTH

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Great article, as always, Ellen. When Bernie is elected in Nov I hope he makes you Treasury Secretary. : )

Remember when average savings accounts would yield 5-6% returns so you could get a safe, decent return on your money?

Well, the monsters who run this country figured out a way to force people to invest (gamble) in the stock market simply by lowering interest rates to close to 0%. And our orange Fuhrer is trying to force the Fed to go negative, which will personally save him many millions of dollars.

We are now The Feudal States of America with Lords and Serfs and nothing in between.

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shad williams

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Trash and Burn.

Submitted on Sunday, Jan 12, 2020 at 12:00:55 PM

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Lee Beacham

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Why don't the liberals complain about the Federal deficit, now $1 trillion and still growing? Our debt growsbeyound $20 trillion while we don't even service the debt. That means we borrow the payments due with new bonds. Could it be.......It's all spent on welfare? And the poor continue to demand more and more. Have you no shame any longer? What happened to "poor but proud". Social media devotees demand equal outcome over equal opportunity. We will never be able to finance ever-growing support for ever-growing money from government. Every Socialist country experiment has or is failing.

Submitted on Sunday, Jan 12, 2020 at 1:52:27 PM

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Jerry Lobdill

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You need to read Michael Hudson's book Killing the Host. It is dead wrong to blame the poor for the condition our economy is in.

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I didn't infer the poor were the problem. We've always had poor people and always will. I'm goring the government that shovels money at them to raise their standard of living without their sacrifice or more work. Government bureaucrats and politicians get more than the poor from welfare. Some is needed. We give too much without followup.

Submitted on Wednesday, Jan 15, 2020 at 10:35:12 PM

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