Money Out of Thin Air

In the first installment of the Lazy Man’s Guide to the Economic Crisis, we explored how a combination of factors led us to the unprecedented economic cataclysm we are experiencing today. There are even more spokes off the wheel that the lazy man needs to understand about the economic crisis. Here in Part Two, we’ll touch on additional key aspects that many mainstream economic pundits tend to overlook.

You may have heard Congressman Ron Paul and others state that the Federal Reserve creates money out of thin air. Essentially, that’s true. It’s called “Fractional Reserve Banking,” where private banks lend out more money than they have in reserves.

In a scholarly work, “Fractional Reserve Banking as Economic Parasitism,” Vladimir Z. Nuri describes a conversation between an astute child and his parent:

Adult: Our government borrows money every year.
Child: Where does the money come from? How can we always be in debt and not have to pay it off?
Adult: We’re in debt to ourselves.
Child: That doesn’t make any sense!
Adult: It’s based on fractional reserve banking. Banks do not have to have all the money that they lend.
Child: I still don’t understand.
Adult: You’ll understand it when you get older.

The joke, of course, is that most adults don’t understand the system, either.

Our second president, John Adams: “All the perplexities, confusion and distress in America arise, not from defects in their Constitution or Confederation, not from want of honor or virtue, so much as from the downright ignorance of the nature of coin, credit and circulation.”

Nuri argues that Fractional Reserve Banking “inequitably leeches money-energy from all citizens, taxpayers, and money holders. Therefore, fundamentally, fractional reserve banking is equivalent to economic parasitism.”

Think big tapeworm, gobbling up your nutrients just as fast as you ingest them.

Because inflation is caused by the expansion of the money supply, says Nuri, the more dollars the Fed creates, the fewer goods Americans can buy. So what happens when the Federal Reserve ramps up the printing presses in bailout after bailout? You guessed it: more inflation, with a reduction in buying power for the average American.

Just how does the Fractional Reserve Banking system operate?
According to LearningMarkets.com:

When you put your money into a bank, the bank is required to keep a certain percentage, a fraction, of that money on reserve at the bank, but the bank can lend the rest out. For instance, if you deposit $100,000 at the bank and the bank has a reserve requirement of 10 percent, the bank must keep $10,000 of your money on reserve and can lend out the $90,000. In essence, the bank has taken $100,000 and has turned it into $190,000 by giving you a $100,000 credit on your deposits and then lending the additional $90,000 out to someone else.

The bank, with magical skills just like Rumpelstiltskin in the children’s fairy tale, spins straw into gold – without the straw. The bank then collects interest on any loan it makes, which the borrower pays for in real dollars, along with the principal that he borrowed. Remember, the bank loaned money that wasn’t really there in the first place, yet the borrower was required to pay the lender back with hard-earned, real money.

But the banks got into hot water when they began to gamble in exotic products (derivatives) such as credit default swaps and the like. All that worthless paper wreaked havoc with their ability to remain solvent.

Web of Debt author Ellen Brown says:

The crisis is not one of “liquidity” but of “solvency.” It has been caused, not by the banks’ inability to get credit (something they can create with accounting entries), but by their inability to meet the [8%] capital requirement imposed by the Bank for International Settlements, the private foreign head of the international banking system. That inability, in turn, has been caused by the derivatives virus; and only a few big banks are seriously infected with it. By bailing out these big banks, the government is actually spreading the virus by furnishing the funds for them to take over smaller regional banks.

The Glass-Steagall Act

How did the banks get into the derivative gambling craze to begin with? With the repeal of the Glass-Steagall Act, the doors were wide open for the dice to roll.

In 1933, Senator Carter Glass and Representative Henry Bascom Steagall introduced the Glass-Steagall Act. Their goal was to separate commercial from investment banking, due to the banks’ purported greed and recklessness, which, they believed, led to the stock market crash of 1929. After the implementation of the Act, banks were given a choice: either they could be investment banks or commercial ones. They couldn’t be both!

We move ahead to 1999, when the Gramm-Leach-Bliley Act marked the end of the separation between investment and commercial banks. Ostensibly put in place because diversification was considered a good buffer for risk, this new Act had the effect of releasing, once again, a tsunami of bank greed – mirroring the giddy days before the 1929 crash.

Not only are we experiencing déja vu with respect to bank irresponsibility and overzealous speculation, we are now bobbing in uncharted social and economic waters – where the sharks are waiting to feed.

Tent City, Here We Come

So what does this all mean for the average American? Well, plenty. American workers are, through no fault of their own, being buffeted about by events that are leaving them jobless, homeless, and even, in some cases, suicidal.

In Sacramento, the capital of California, a large tent city has sprung up by the banks of the American River. The “new poor,” as they are called, pitch their tents and wait out their economic woes – hoping against hope that the new president will somehow pull off a financial miracle and get them on their feet again.

Each week, fifty new residents join the already thousand-plus tent city dwellers in Sacramento. Some tent city inhabitants hide their grim circumstances from their own children, pretending that all is well during their weekly phone calls to loved ones. Ashamed of their poverty, these tent city residents rely on social service handouts to survive.

Because banks and corporations are absorbing the wealth of Americans, we may very well see more tent cities springing up across the country. Because the money masters have orchestrated job losses in America (to the tune of about 600,000 lost jobs a month), soon Americans will have no option but to join the swelling ranks of tent city residents – or eat, breathe, and sleep in their cars.

KATHY SANBORN is an author, journalist, and recording artist with a new CD, Peaceful Sounds, now a top seller on CDBaby. Listen to clips of her songs, including “Forever War,” and buy the album now at http://cdbaby.com/cd/kathysanborn.

© 2009 KATHY SANBORN

 

 

 

 

KATHY SANBORN is an author, journalist, and recording artist with a new CD, Peaceful Sounds, now a top seller on CDBaby. Listen to clips of her songs, including “Forever War,” and buy the album now at http://cdbaby.com/cd/kathysanborn.

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