The Federal Reserve

When I was seventeen I went with our high school Beta Club on a trip to Washington, D.C.  We toured the city and saw many of the edifices and institutions that are essential to the experience of going to the Nation's Capital:  The Smithsonian, the Lincoln Memorial, the Jefferson Memorial, the White House and so on.  And of course we saw the Federal Reserve Building.  I remember thinking that the Federal Reserve Building looked like what I had imagined to be the appearance of the Temple of Solomon.

At that time and for many years thereafter I thought, like most Americans, that the Federal Reserve was a branch of the U.S. government.  I believed that it printed our currency and protected large quantities of gold and silver and huge stacks of paper money in readiness in case they should be needed by the American people.  After all, this is what is implied by "Federal" and "Reserve," is it not?

What I was not taught in school, however, is that the Federal Reserve is a Central Bank, a group of private bankers.  I was also not taught that the Federal Reserve does not print our currency; that is a function of the Bureau of Printing and Engraving.  And I was not taught that the Federal Reserve does not store anything tangible for the American people. 

I was well into adulthood before I learned that the Federal Reserve is private.  Well good, I thought; as a Libertarian, I was happy to have relegated to some private concern any function that might normally go to the government.  After all, the private sector is more efficient than the federal government and perhaps also less susceptible to corruption and political influence.  It was not until many years later, however, after I was deep into middle age, that I discovered the true nature of our Central Bank. 

If the Federal Reserve does not print our money, and if it does not keep anything of value in reserve, what exactly does it do? 

1. It lends our own currency to us at interest. 

2. It controls the supply, or quantity, of money and therefore also its value. 

Before 1913, the U.S. government printed our money and it was backed by gold.  Therefore the value of our currency was relatively stable as the supply of gold was relatively stable.  If you did a days' worth of work and got a dollar, that dollar was yours as the product of your labor.  You could redeem that dollar for a quantity of gold, but no one really bothered doing it because, by virtue of being backed by gold, the dollar was sound.  "Sound as the dollar" was a common phrase once upon a time. 

Fast forward to today.  You do a day's work, and someone gives you five twenty dollar bills.  Take a look at one of those twenty dollar bills.  At the top it says "Federal Reserve Note."  A note is a debt, is it not?  That twenty dollar bill represents what the U.S. Government owes to the Federal Reserve, and therefore what you owe to the U.S. Government.  So in exchange for your work, instead of getting something of value free and clear, you get an obligation.  Two other interesting points come out of this comparison.  The first is that since the Federal Reserve can control the value of our money, it has caused our money to be worth less and less over time.  The value of a dollar in 1913 was a lot higher than the value of a dollar today, for you could buy a day of work from a man with a dollar back then and it takes a hundred or so of them to purchase the same amount of work today.  The second point has to do with the image on the twenty dollar bill:  Andrew Jackson. 

Andrew Jackson, like Thomas Jefferson before him, believed that a Central Bank existed primarily for the rich to steal from the poor and the middle class.  After terrible struggles with very powerful bankers, he ultimately did away with the institution and restored the function to the government.  His administration went from being in debt to having a surplus, as it was no longer necessary to pay huge sums of money to the bankers for lending us our own currency.  His successor, Martin Van Buren, actually redistributed funds back to the states. 

So now we know that:

1. The Federal Reserve is a Central Bank, in other words, it is private. 

2. The Federal Reserve makes huge sums of money in interest payments for wealthy and powerful people to do little or nothing. 

3. The Federal Reserve controls the value of our money, decreasing its value to us and thereby also increasing its value to them.  This is called inflation. 

Now if the Federal Reserve only does bad things, why do we have it?  Well one answer is that it is not bad to everyone, just ordinary people.  For the politically powerful and the ultra-rich, the Federal Reserve system is a fantastic source of a continuous stream of wealth.  These are the people, after all, who establish law and policy; why should they not do so in a manner that benefits them directly?  But that is admittedly somewhat cynical.  Why would more or less reasonable people love the Central Bank?

Politicians love the Federal Reserve because it allows them to obtain funds that they do not have to raise in taxes, at least not during their terms of office.  Let's say the liberals in government want to create a new social program whereby everyone who is somewhat ugly gets plastic surgery so they will be better-looking, and the conservatives want to create a fleet of battle ships that can fly as well as float.  The conservatives won't vote for the surgery without getting the battleships, and the liberals will not vote for the battleships without getting the plastic surgery funded.  Both groups want to give these to the American people because the people will love them for these benefits and will reelect them continuously to their narcotic positions of power (mysteriously always accompanied by increasing wealth).  The problem is the politicians cannot raise the revenue by taxation; if they try that the people will realize how these programs are not "free" and they will be crushed by the weight of the taxes.  So the politicians borrow the money from the Federal Reserve at interest, to be repaid by the children and the grandchildren of those who benefit from the programs, and if they can't raise the revenue by normal taxation they use the other form of taxation:  inflation.  We see this happening now.  The debt is so high that our taxes are barely enough to cover the interest on the debt; the government then urges the Federal Reserve to decrease the value of our currency through inflation so it can raise revenue for other operating costs.  People are working harder and harder for less and less wealth. 

Some people might say we need the Federal Reserve because it makes the money supply flexible; who knows when you might need more or less money?  What if there was a run on the banks?  Wouldn't it be good then for the Federal Reserve to print more money?  Well that potential did not prevent the Great Depression!  Remember that the Federal Reserve was created before the Great Depression.  There are serious individuals who believe that the Central Bank did not prevent the Depression because it was not in the interest of these bankers to do so!  They believe, as did Thomas Jefferson, that the Central Bank creates booms during which common people create huge quantities of goods and services of great value and then the bankers create busts during which they can purchase those goods and services at a fraction of their worth.  You don't need a Federal Reserve, however, to change the money supply.  The government should be very capable of that by itself.  You can argue that such a process should not be politicized, and that makes sense, but we have agencies of the government that operate more or less outside of the usual kinds of political influence.  We do not know, for example, whether the Chairman of the Joint Chiefs of Staff is a Republican or a Democrat and it is hard to imagine it being of any particular concern. 

I may have been inaccurate in one of my contentions above, that the Central Bank does not store anything of value.  Some believe that the Federal Reserve holds massive quantities of gold.  Many people believe that the gold that was once in Fort Knox is now in the Federal Reserve, not held in safe keeping for the American people, but held in collateral for our massive government debt.  Because some Americans are suspicious that this is indeed the case, they have called for adherence to the law by having an audit of Fort Knox.  The government and the Federal Reserve have both ignored this demand. 

I am a physician, not an economist or a politician, so I bring little more than a layman's appreciation for the issues discussed above.  What shocks me, however, is how ignorant I was of the truth of the Central Bank, even at a high level of education.  How, after so many years at the university, do I know so little?  Now I see the same stupefied expression on my family, friends and colleagues when I urge them to consider the implications of the existence of the Federal Reserve.  Whether the Central Bank is a good thing or a bad thing, and I fear it is the latter by a huge degree, the stakes are too high for us to languish in the dark.