The Fed and Moral Hazard
By: BJ Lawson
I just watched an instructive interview between CNBC’s Steve Liesman and Harvey Rosenblum, a 38-year Federal Reserve veteran who is currently Director of Research at the Dallas Fed. The entire interview is available here, but let’s start with a brief excerpt:
Liesman: One of the concerns out there right now is that actions by the Federal Reserve and the government will increase what we call “moral hazard.” What are your thoughts on that?
Rosenblum: The Federal Reserve is in business to create moral hazard. The mere act of being a central banker means that your job description involves creating moral hazard. A central bank is a “lender of last resort,” what more moral hazard can you have than having a lender of last resort that people know, when push can to shove, can be relied upon? The Federal Reserve’s job is to cushion the blow to 300 million American citizens of all the economic shocks that hit out there. What drives me crazy is when I hear people shouting “Moral hazard, moral hazard”… that’s what my job is to do…
Liesman then asks Rosenblum an interesting question:
Liesman: You’ve been at the Fed thirty eight years. Do you feel as if some of things being discussed and some of the things the Fed has had to do recently have stretched the Federal Reserve too far?
Rosenblum: No. I think it’s stretching the Federal Reserve in the direction that it needs to be stretched, and we just have to get the laws to catch up with where we ultimately have to be if we’re going to be a 21st century Fed deaing with 21st century financial markets. And if you’re going to be a lender of last resort, you have to have the tools to deal with the thing, and you need more regulatory power. Will regulation ever be perfect? Will it solve all the problems? Absolutely not. At best it will be one step behind the market, but even if you’re two steps behind the market, you’re doing pretty darn good.
There you have it. An insider’s description of a system that is perfectly designed to steal from the poor and middle class, to the benefit of those who control the supply of money and credit. Banks who control the supply of money and credit constantly engineer new ways to exploit the system for their benefit. Importantly, they can push the system past its limits knowing that profits will be privatized during the good times, while losses during crises will be socialized.
Cue my favorite banking video (long-time supporters will have seen this already, but it’s always worth reviewing):
Does it make sense to give the Federal Reserve more power, when in fact it is the cause of our systemic instability, and a key ingredient of an economic system that institutionalizes corporatism, poverty, and injustice?
Fortunately, more people in Washington such as Kentucky Senator Jim Bunning are realizing that the Federal Reserve is the problem instead of the solution:
Now the Fed wants to be the systemic risk regulator. But the Fed is the systemic risk. Giving the Fed more power is like giving the neighborhood kid who broke your window playing baseball in the street a bigger bat and thinking that will fix the problem. I am not going to go along with that and will use all my powers as a Senator to stop any new powers going to the Fed.
Indeed, the Federal Reserve has been scrambling over the past year to prevent a collapse of our banking and money system with a variety of “lending facilities” that let various players in the financial markets exchange assets of questionable values for Treasury debt at low interest rates, for an extended period of time. These lending facilities are the reason that the Fed itself is running out of Treasury debt — it’s lending Treasury debt so that banks don’t have to put a value on illiquid and difficult-to-value (read: questionable) assets. Does such a shell game, or a system that encourages it, make any sense at all?
Well, it might make sense, and money, for the banks. Take last week, for instance. Freddie Mac’s shares soared last Monday after a reportedly successful auction of $2 billion in new debt. One might ask who is buying Freddie’s bonds in the current environment — a recent Financial Times article reports that foreigners are scaling back their GSE holdings:
Bank of China this week revealed it had cut its portfolio of securities issued or guaranteed by the two government-sponsored enterprises by a quarter, or $4.6bn, since the end of June. The sale underscored signs of nervousness among foreign buyers of Fannie and Freddie’s debt.
Might domestic banks be picking up the slack? John Carney of Dealbreaker raises an intriguing possibility:
We don’t know who bought the Freddie notes today. But buyers of Freddie notes who have access to borrowing from the Federal Reserve would have found the decision to bid relatively easy. That’s because the ability to exchange the Freddie debt for Fed cash means banks can buy Freddie debt with a huge amount of leverage, dramatically increasing the return on their capital.
Here’s how it works. A bank that bought the six month notes from Freddie this morning could also bid to borrow from the Fed’s Term Facility, which held an $75 billion auction today. As collateral for the borrowing, the bank could offer the newly purchased Freddie notes, for which the Fed would give them credit for 97% of their market value. Recently, the TAF pricing topped out at 2.35 percent for 28-day borrowing. So a bank buying $100 million of Freddie paper yielding 2.858% could flip it to the Fed, borrowing $97 million at around 2.4% (assuming the pricing will be slightly higher this time around).
At the end of the day, a credit desk could buy $100 million of Freddie debt for just $3 million down. On that $3 million, the desk would receive a 17.7% annualized return, or 8.8% over six months, for paper that is thisclose to being explicitly backed by the Treasury Department. Not a bad deal at all.
Ah, the ingenuity of the markets.
Keep in mind that the same banks with access to these borrowing facilities charge usurious interest rates for credit cards, load up customers with penalties and fees, profit by creating money out of nothing to lend to the public with interest, and seize underlying assets when folks can’t pay.
Why can’t we all sign up for a taxpayer-financed carry trade? Thank you, Mr. Chairman:
August 30th, 2008 at 8:19 pm
BJ,
You sound like Andrew Jackson.
August 31st, 2008 at 5:36 pm
“The Federal Reserve’s job is to cushion the blow to 300 million American citizens of all the economic shocks that hit out there. ”
Well, that’s a baldfaced lie. The Fed’s job is to inflate the money, and he probably knows that. The fed is a problem masquerading as its own solution.
-jcr
August 31st, 2008 at 7:57 pm
“The fed is a problem masquerading as its own solution.”
You couldn’t have said it better.
September 1st, 2008 at 5:31 am
Thanks Mark, but I can’t take credit for that line. I don’t remember when I first heard it, but it was at least twenty years ago. I probably read it in one of H. L. Mencken or Murray Rothbard’s essays.
-jcr
September 3rd, 2008 at 3:23 pm
[...] The Fed and Moral Hazard [...]
September 7th, 2008 at 7:41 pm
There are few who are raising the extremely important issue of the hidden inflation tax that has siphoned off most of the wealth away from the People of this country. Consider this: a person making, say $50,000.00 per year in 2008 only has the effective purchasing power of $9,030.69 in 1970 dollars; so, in other words, a person who makes about $24.00 dollars per hour in 2008 only has the purchasing power of $4.34 per hour in 1970 dollars. Now, when you consider the same $50,000.00 today compared to the purchasing power of 1913, the year the Federal Reserve Act was rammed down the throats of the American People, then that 50K only has the purchasing power of $2,304.22 in 1913 dollars…pretty sad, wouldn’t you say?
That is real wealth that has gradually been stolen from the American People, our labor today is basically free in terms of real money, or what was real money prior to 1913 and then the real blows of 1933 and especially 1971 when the dollar was made by total fiat. Is it any wonder why the government must mandate the minimum wage? A person making a minimum wage of $5.85 today has the effective purchasing power of $1.06 per hour in 1970 dollars or $42.40 per week in 1970 purchasing power.
We live under such well-crafted illusions; the biggest is perhaps the one that is known as the “Dollar”. The hard-core illusion about the “Dollar” really began in earnest in 1933, when, in the depth of economic depression, FDR “revalued” gold. He artificially raised the price of gold from $20.67 to $35.00 per ounce, of course gold wasn’t his real focus with such revaluation, it was the “Dollar” and its connection to gold that was the focus of this scheme created to form a national peonage. In effect, FDR devalued the purchasing power of the “Dollar” by increasing the value of gold as it was associated with the “Dollar”.
In reality, FDR didn’t actually “raise” the price of gold; he lowered the value of the “dollar” by a whopping total of 41%. The price of gold had been increased, not by market forces, but by executive mandate, thus forcing the purchasing power of the “Dollar” down. At the time, money was gold and gold was money, but this was the first real break between real money and the U.S. Dollar. Of course, the gold in this country had been confiscated [in a breach of trust and violation of contract] by the same type of executive order given by FDR, all in an effort to implement an eventual break between real money and government decreed legal tender fiat money.
By this one action, the Treasury was instructed to pay $14.33 more “Dollars” for the same ounce of gold that just the day before was valued at $20.67 per ounce. Remember, in this country the “Dollar” was not money, it was redeemable for money, but it was not considered money. Gold was money and money was gold that was the essence of our monetary system. The reality behind this criminal action by FDR was that the people of this country were led to believe that FDR just increased the price of gold, but in fact, in reality, he had, with a stroke of a pen, drastically lowered the purchase value of the “Dollar”. Not only had he [the government] confiscated the people’s gold, but on top of it he also stole 41% of their purchasing power by devaluing the “Dollar”. He did a lot more than that, but that’s for another commentary.
The whole idea behind this action [I am sure if we pulled the curtain back far enough we would see the whole idea behind the Great Depression] was to depreciate the purchase value of the “Paper Dollar”, as it criminalized the ownership of real money [Gold] thus enforcing the use of a greatly devalued monetary unit called the “Dollar”. It should be obvious that it is impossible to “cheapen” the value of gold, so FDR, the government and the bankers, had to “cheapen” the “Dollar”. In effect, if someone went to the grocery store the next day after this happened, they would be pulling out the same “Dollars”, but even though they would see a hundred dollar bill in their hands, they would only be valued at 59% of what it was the day before.
Perhaps the most interesting thing is really what took place in the economy the next day, nothing happened, everything looked and worked the same as it had the day before even though the “Dollar” had been drastically debased. The problem, of course, was that this massive devaluation of the “Dollar” did not immediately show up in the economy, so when everyone when out to buy something the next day after the devaluation they bought goods and services that had the same pricing structure prior to the debasement of the currency. They were using money that had been devalued by 41%, but at that point the prices of goods and services didn’t reflect the devaluation.
So, in essence, a buyer of goods and services would get, let’s say $100 worth of goods, but the seller of those goods would receive only 59% purchase value and it was only until the seller of those goods and services used that devalued money that the chain of events would begin to take place as the debased value of those “Dollars” would begin to bid against the price of goods and services in the economy.
So, all those producers, manufacturers, salespeople, companies would be forced to accept 59 cents on the “Dollar” in exchange for every 100 cents worth of goods and services. No one even seemed to be aware that they had been effectively robbed, guess what, very few people today seem to be aware that they are being robbed each and every pay day.
All the Americans who were working hard for their “money” were, in reality, working for a 41% discount the day after FDR’s devaluation of the “Dollar”, today of course, few people recognize that Americans are basically working for over a 95% discounted rate per hour then they were prior to the crimes of FDR. To everyone it seemed like they were working for the same amount of money they had always worked for, the one dollar bills looked the same, the five dollar bills looked the same, the twenty dollar bills looked the same, the fifty dollar bills looked the same, the hundred dollar bills looked the same, they sill look the same, but they are not the same.
It seems that it is just as easy today as it was when FDR committed the crime, people still look at their money and they still see the various denominations not realizing the fact that they are working at a drastically discounted rate per hour and are paying far more in the price of goods and services. How absolutely gullible the People have been and still are in this country.The reality is that this country has been transformed into a feudal peonage, where the people are productive workers for The State, laboring for pennies on the “Dollar” while they remain content under the illusion that they are making “more money”, never seeming to understand that they are just working for more monetary face values, but far less money purchase value.
We are a discounted work force, productive worker bees in the hive of The State [a government/corporate entity]. The government, the very entity that was created to protect this People has, instead, enslaved this People under a stealthy systematic creation of a massive serfdom. It’s all pretence, all a scam that robs us and subjugates us under the wonderful guise of its protective wings.
The government has taken on the image of the “great problem solver” seeking to solve the ever-increasing list of problems, the very problems that it has created in the first place. It has enriched itself and its favorite cronies at the expense of the People, it is guilty and deserves to be dismantled, scrapped clean of its rancid fat, its bloated muscle, and scrapped down to bone and tendon.
rEVOLution2REVOLUTION
In Liberty and Eternal Vigilance,
Republicae-Seditionist
September 21st, 2008 at 12:55 am
[...] thrown a massive brick through the window, and are asking us to hire and pay them to fix it: As noted by many, including Kentucky Senator Jim Bunning and Texas Representative Ron Paul, the Federal Reserve and [...]