Central Banking: Feds Rule The Game

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In mid-September President Barack Obama mounted Theodore Roosevelt’s bully pulpit and railed against market greed to an audience of corporate tycoons. The objects of his derision included, and were limited to, bankers, financiers, and speculators in the 'private' financial community. Notably absent from the enemy bankers list were quasi-government banking corporations and America’s central bankers.

Needless to say, the Wall Streeters convened in New York’s Federal Hall sat on their hands, perhaps wondering what had happened to the options that they underwrote for the Obama presidency when they passed around his campaign contribution hat to chip in $700 million.

To hear President Obama’s version of recent financial history — echoed both by demonstrators and summiteers at Pittsburgh’s G20 jamboree — rapacious speculators and freebooters hijacked otherwise innocent American investors, stuffed their portfolios with inflated or worthless mortgage-backed securities, paid themselves huge bonuses for the effort, and then left the mess to be cleaned up, to use a George Bushism, by “the good folks in Washington.”

The September New York meeting should have made for a compelling prime-time encounter session: Progressive president takes on the robber barons. After all, voters are leery of health care reform partly because they feel that, despite good intentions, their government has already bet the ranch by bailing out the banks.

Such are the mixed metaphors of the Obama presidency that there is a constituency that cannot tell if he is a creeping socialist (too many public options) or a Wall Street front man (making the world safe for Goldman Sachs). Nor is there much consensus around the proposals to cap the bonuses of corporate hierarchs, even those who bled their companies dry.

Certainly it seems odd that, after a global collapse of so many markets, President Obama cannot ignite a bonfire of the vanities at the head of Wall Street. After the recent speech, the corporate Medicis dismissed the need for comprehensive financial regulations and justified their bonuses much the way Babe Ruth once explained why he was paid more than the President (“Well, I had a better year”).

The reason the U.S. administration does not get more traction with the panegyric of financial outrage is that many Americans now see little difference between the speculators on Wall Street and those running the government in Washington.

After all, the biggest bets on sub-prime were made at two quasi-government corporations, Fannie Mae and Freddie Mac, and many of the bailed-out corporations earn their daily bread floating and trading U.S. government securities. In that sense, Wall Street treats President Obama as a cranky client, someone who often complains about the fees and commissions, but who has few alternatives to discount his paper.

Teddy Roosevelt was able to take on corporate interests because, during the early 20th century, the U.S. government wasn’t in the banking businesses. President Andrew Jackson had driven a stake through the heart of the Second Bank of the United States, and throughout the 19th century the economy was in private, non-governmental hands.

That private oligopoly was broken with the Federal Reserve Act of 1913, which put the U.S. government in the money game of issuing and regulating the currency.

After 1913, it wasn’t just railroad speculators like Daniel Drew who could water the stock. The regional branches of the Federal Reserve System were also in the business of manipulating prices and values in the American economy. But that does not mean that the regulators always got it right.

One way to read the history of the Great Depression is as a cautionary tale on the fallibility of central banking and the risks of government intervention in a market economy.

That is a thesis of Liaquat Ahamed’s Lords of Finance, an account of the European and American central banks that “regulated” their economies into the failures of the 1930s. He makes the compelling case that the central bankers of Britain, France, Germany, and the United States fiddled with exchange rates, gold parity, currency issuance, and interest rates until the market crash of 1929-30 became the Great Depression of the 1930s.

Central banks are, he asserts, above all political and not economic machines, and that for much of the early twentieth century, the government bankers never had “much of a year.”

Leading up to the Great Depression, Britain pegged its currency to gold at too high an exchange rate, which led to collapse as traders relentlessly exchanged weakening pounds for Bank of England gold. France (like China today) played the game of low exchange rates, and subsidized its exporters with a cheap French franc, which undercut the European competition and hampered Germany’s re-integration into Europe.

For its part, the United States insisted that France and England repay its war loans, which, indirectly, kept the economic pressure on Germany, which owed billions in reparations to the former Allies. And the German central bank, at various moments, chose to lessen its debt load with runaway inflation, which wiped out not just interest payments, but savings accounts and democratic government.

In many ways, in steering the U.S. economy away from Great Depression, Part II, the Obama administration is facing the same dilemmas that confronted the Bank of England, if not the German government, after the 1929 Crash. Although the U.S. dollar is not pegged to gold, it is fixed to an artificially high standard of American living, which is supported with massive debt at all government and household levels.

To pay off these obligations, the government can let the dollar sink, which will subsidize exporters, but infuriate foreign creditors, such as China. This route would also prime the pump of inflation, which is a tax on savings and a gift to debtors, such as the indebted U.S. government.

Or Washington can push a strong dollar policy, which our allies and creditors would prefer. But that will make the United States a poorer nation, as national wealth and assets will need to be transferred to pay off the borrowing binge.

Little did President Obama acknowledge, when he stood at Federal Hall in the shadow of George Washington’s first inaugural, that the speculator he should have been denouncing was none other than the government that he heads. This does not excuse the self-congratulatory bonuses of Wall Street punters or the failures that they engineered, and which President Obama papered over with bailout money and stimulus packages. But it does suggest why few in the crowd, or the electorate at large, cried “bully” when he was finished. They are in the same game.

Matthew Stevenson was born in New York, but has lived in Switzerland since 1991. He is the author of, among other books, Letters of Transit: Essays on Travel, History, Politics, and Family Life Abroad. His most recent book is An April Across America. In addition to their availability on Amazon, they can be ordered at Odysseus Books, or located toll-free at 1-800-345-6665. He may be contacted at matthewstevenson@sunrise.ch.