The criminal big banks have run up $600-plus Trillion (about 40 times the US GDP) in gambling debts to one another. Because of myriad undecipherable claims, the first bank to fail will likely bring them all down -- a "systemic risk" that the US government has decided to prevent at all costs. Adding this to the fact that the Dodd-Frank Act of 2010 now forbids additional taxpayer bailouts implies that when the big banks finally do fail, as they must, expect that they will stay alive by bailing-IN (confiscating their depositors' money a la Cyprus). Here Ellen Brown proposes “a safer, saner, more equitable model.” I sure hope struggling cities adopt it.

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The Detroit Bail-In Template: Fleecing Pensioners to Save the Banks

Posted on August 5, 2013 by Ellen Brown                                                                                                   Original here

The Detroit bankruptcy is looking suspiciously like the bail-in template originated by the G20’s Financial Stability Board in 2011, which exploded on the scene in Cyprus in 2013 and is now becoming the model globally. In Cyprus, the depositors were “bailed in” (stripped of a major portion of their deposits) to re-capitalize the banks. In Detroit, it is the municipal workers who are being bailed in, stripped of a major portion of their pensions to save the banks.

Bank of America Corp. and UBS AG have been given priority over other bankruptcy claimants, meaning chiefly the pensioners, for payments due on interest rate swaps they entered into with the city. Interest rate swaps – the exchange of interest rate payments between counterparties – are sold by Wall Street banks as a form of insurance, something municipal governments “should” do to protect their loans from an unanticipated increase in rates. Unlike ordinary insurance, however, swaps are actually just bets; and if the municipality loses the bet, it can owe the house, and owe big. The swap casino is almost entirely unregulated, and it is a rigged game that the house virtually always wins. Interest rate swaps are based on the LIBOR rate, which has now been proven to be manipulated by the rate-setting banks; and they were a major contributor to Detroit’s bankruptcy.

Derivative claims are considered “secured” because the players must post collateral to play. They get not just priority but “super-priority” in bankruptcy, meaning they go first before all others, a deal pushed through by Wall Street in the Bankruptcy Reform Act of 2005. Meanwhile, the municipal workers, whose pensions are theoretically protected under the Michigan Constitution, are classified as “unsecured” claimants who will get the scraps after the secured creditors put in their claims. The banking casino, it seems, trumps even the state constitution. The banks win and the workers lose once again.

Systemically Dangerous Institutions Are Moved to the Head of the Line

The argument for the super-priority of derivative claims is that nonpayment on these bets represents a “systemic risk” to the financial scheme. Derivative bets are cross-collateralized and are so inextricably entwined in a $600-plus trillion house of cards that the whole financial scheme could go down if the betting scheme were to collapse. Instead of banning or regulating this very risky casino, Congress has been persuaded by the masterminds of Wall Street that it needs to be preserved at all costs.

The same tortured logic has been used to justify the fact that the federal government deigned to bail out Wall Street but not Detroit. Supposedly, the mega-banks pose a systemic risk and Detroit doesn’t. On July 29th, former Obama administration economist Jared Bernstein pursued this line of reasoning on his blog, writing:

[T]he correct motivation for federal bailouts — meaning some combination of managing a bankruptcy, paying off creditors (though often with a haircut), or providing liquidity in cases where that’s the issue as opposed to insolvency – is systemic risk. The failure of large, major banks, two out of the big three auto companies, the secondary market for housing – all of these pose unacceptably large risks to global financial markets, and thus the global economy, to a major industry, including its upstream and downstream suppliers, and to the national housing sector.

Because a) there’s not much of a case that Detroit is systemically connected in those ways, and b) Chapter 9 of the bankruptcy code appears to provide an adequate way for it to deal with its insolvency, I don’t think anything like a large scale bailout is forthcoming.

Holding Main Street Hostage

Detroit’s bankruptcy poses no systemic risk to Wall Street and global financial markets. Fine. But it does pose a systemic risk to Main Street, local governments, and the contractual rights of pensioners. Credit rating agency Moody’s stated in a recent report that if Detroit manages to cut its pension obligations, other struggling cities could follow suit. The Detroit bankruptcy is establishing a template for wiping out government pensions everywhere. Chicago or New York could be next.

There is also the systemic risk posed to the municipal bond system. Bryce Hoffman, writing in The Detroit News on July 30^th, warned:

Detroit’s bankruptcy threatens to change the rules of the municipal bond game and already is making it more expensive for the state’s other struggling towns and school districts to borrow money and fund big infrastructure projects.

In fact, one bond analyst told The Detroit News that he has spoken to major institutional investors who have already decided to stop, for now, buying any Michigan bonds.

The real concern of bond investors, says Hoffman, is not the default of Detroit but the precedent the city is setting. General obligation municipal bonds have always been viewed as a virtually risk-free investment. They are unsecured, but bondholders have considered themselves protected because the bonds are backed by the “unlimited taxing authority” of the government that issued them. Detroit, however, has shown that the city’s taxing authority is far from unlimited.  It already has the highest property taxes of any major city in the country, and it is bumping up against a ceiling imposed by the state constitution. If Detroit is able to cut its bond debt in half or more by defaulting, other distressed cities are liable to look very closely at following suit. Hoffman writes:

The bond market is warning that this will make Michigan a pariah state and raise borrowing costs — not just for Detroit and other troubled municipalities, but also for paragons of fiscal virtue such as Oakland and Livingston counties.

However, writes Hoffman:

Gov. Rick Snyder dismisses that threat and says the bond market is just trying to turn Detroit away from a radical solution that could become a model for other struggling cities across America.

A Safer, Saner, More Equitable Model

Interestingly, Lansing Mayor Virg Bernero, Snyder’s Democratic opponent in the last gubernatorial race, proposed a solution that could have avoided either robbing the pensioners or scaring off the bondholders: a state-owned bank. If the state or the city had its own bank, it would not need to borrow from Wall Street, worry about interest rate swaps, or be beholden to the bond vigilantes. It could borrow from its own bank, which would leverage the local government’s capital into credit, back that credit with the deposits created by the government’s own revenues, and return the interest to the government as a dividend, following the ground-breaking model of the state-owned Bank of North Dakota.

There are other steps that need to be taken, and soon, to prevent a cascade of municipal bankruptcies.  The super-priority of derivatives in bankruptcy needs to be repealed, and the protections of Glass Steagall need to be restored. While we are waiting on a very dilatory Congress, however, state and local governments might consider protecting themselves and their revenues by setting up their own banks.

_________________
Ellen Brown is an attorney, president of the Public Banking Institute, and author of twelve books, including the best-selling Web of Debt and its 2013 sequel, The Public Bank Solution. Her websites are http://WebofDebt.com, http://PublicBankSolution.com, and http://PublicBankingInstitute.org.

Excerpt: "The FDIC was set up to ensure the safety of deposits. Now, it seems, its function will be the confiscation of deposits to save Wall Street."

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Winner Takes All: The Super-priority Status of Derivatives

Posted on April 9, 2013 by Ellen Brown

Cyprus-style confiscation of depositor funds has been called the “new normal.”  Bail-in policies are appearing in multiple countries directing failing TBTF banks to convert the funds of “unsecured creditors” into capital; and those creditors, it turns out, include ordinary depositors. Even “secured” creditors, including state and local governments, may be at risk.  Derivatives have “super-priority” status in bankruptcy, and Dodd Frank precludes further taxpayer bailouts. In a big derivatives bust, there may be no collateral left for the creditors who are next in line.   

Shock waves went around the world when the IMF, the EU, and the ECB not only approved but mandated the confiscation of depositor funds to “bail in” two bankrupt banks in Cyprus. A “bail in” is a quantum leap beyond a “bail out.” When governments are no longer willing to use taxpayer money to bail out banks that have gambled away their capital, the banks are now being instructed to “recapitalize” themselves by confiscating the funds of their creditors, turning debt into equity, or stock; and the “creditors” include the depositors who put their money in the bank thinking it was a secure place to store their savings.

 
The Cyprus bail-in was not a one-off emergency measure but was consistent with similar policies already in the works for the US, UK, EU, Canada, New Zealand, and Australia, as detailed in my earlier articles here and here.  “Too big to fail” now trumps all.  Rather than banks being put into bankruptcy to salvage the deposits of their customers, the customers will be put into bankruptcy to save the banks.

Why Derivatives Threaten Your Bank Account

 
The big risk behind all this is the massive $230 trillion derivatives boondoggle managed by US banks. Derivatives are sold as a kind of insurance for managing profits and risk; but as Satyajit Das points out in Extreme Money, they actually increase risk to the system as a whole.
 
In the US after the Glass-Steagall Act was implemented in 1933, a bank could not gamble with depositor funds for its own account; but in 1999, that barrier was removed. Recent congressional investigations have revealed that in the biggest derivative banks, JPMorgan and Bank of America, massive commingling has occurred between their depository arms and their unregulated and highly vulnerable derivatives arms. Under both the Dodd Frank Act and the 2005 Bankruptcy Act, derivative claims have super-priority over all other claims, secured and unsecured, insured and uninsured. In a major derivatives fiasco, derivative claimants could well grab all the collateral, leaving other claimants, public and private, holding the bag.
 
The tab for the 2008 bailout was $700 billion in taxpayer funds, and that was just to start. Another $700 billion disaster could easily wipe out all the money in the FDIC insurance fund, which has only about $25 billion in it.  Both JPMorgan and Bank of America have over $1 trillion in deposits, and total deposits covered by FDIC insurance are about $9 trillion. According to an article on Bloomberg in November 2011, Bank of America’s holding company then had almost $75 trillion in derivatives, and 71% were held in its depository arm; while J.P. Morgan had $79 trillion in derivatives, and 99% were in its depository arm. Those whole mega-sums are not actually at risk, but the cash calculated to be at risk from derivatives from all sources is at least $12 trillion; and JPM is the biggest player, with 30% of the market.
 
It used to be that the government would backstop the FDIC if it ran out of money. But section 716 of the Dodd Frank Act now precludes the payment of further taxpayer funds to bail out a bank from a bad derivatives gamble. As summarized in a letter from Americans for Financial Reform quoted by Yves Smith:

Section 716 bans taxpayer bailouts of a broad range of derivatives dealing and speculative derivatives activities. Section 716 does not in any way limit the swaps activities which banks or other financial institutions may engage in. It simply prohibits public support for such activities.

There will be no more $700 billion taxpayer bailouts. So where will the banks get the money in the next crisis? It seems the plan has just been revealed in the new bail-in policies.

All Depositors, Secured and Unsecured, May Be at Risk

 
The bail-in policy for the US and UK is set forth in a document put out jointly by the Federal Deposit Insurance Corporation (FDIC) and the Bank of England (BOE) in December 2012, titled Resolving Globally Active, Systemically Important, Financial Institutions.
 
In an April 4th article in Financial Sense, John Butler points out that the directive does not explicitly refer to “depositors.”  It refers only to “unsecured creditors.”  But the effective meaning of the term, says Butler, is belied by the fact that the FDIC has been put on the job. The FDIC has direct responsibility only for depositors, not for the bondholders who are wholesale non-depositor sources of bank credit. Butler comments:
 
Do you see the sleight-of-hand at work here? Under the guise of protecting taxpayers, depositors of failing institutions are to be arbitrarily, de-facto subordinated to interbank claims, when in fact they are legally senior to those claims!

. . . [C]onsider the brutal, unjust irony of the entire proposal. Remember, its stated purpose is to solve the problem revealed in 2008, namely the existence of insolvent TBTF institutions that were “highly leveraged and complex, with numerous and dispersed financial operations, extensive off-balance-sheet activities, and opaque financial statements.” Yet what is being proposed is a framework sacrificing depositors in order to maintain precisely this complex, opaque, leverage-laden financial edifice!

If you believe that what has happened recently in Cyprus is unlikely to happen elsewhere, think again. Economic policy officials in the US, UK and other countries are preparing for it. Remember, someone has to pay. Will it be you? If you are a depositor, the answer is yes.

The FDIC was set up to ensure the safety of deposits. Now, it seems, its function will be the confiscation of deposits to save Wall Street. In the only mention of “depositors” in the FDIC-BOE directive as it pertains to US policy, paragraph 47 says that “the authorities recognize the need for effective communication to depositors, making it clear that their deposits will be protected.” But protected with what? As with MF Global, the pot will already have been gambled away. From whom will the bank get it back? Not the derivatives claimants, who are first in line to be paid; not the taxpayers, since Congress has sealed the vault; not the FDIC insurance fund, which has a paltry $25 billion in it. As long as the derivatives counterparties have super-priority status, the claims of all other parties are in jeopardy.
 
That could mean not just the “unsecured creditors” but the “secured creditors,” including state and local governments. Local governments keep a significant portion of their revenues in Wall Street banks because smaller local banks lack the capacity to handle their complex business. In the US, banks taking deposits of public funds are required to pledge collateral against any funds exceeding the deposit insurance limit of $250,000. But derivative claims are also secured with collateral, and they have super-priority over all other claimants, including other secured creditors. The vault may be empty by the time local government officials get to the teller’s window. Main Street will again have been plundered by Wall Street.

Super-priority Status for Derivatives Increases Rather than Decreases Risk 

 
Harvard Law Professor Mark Row maintains that the super-priority status of derivatives needs to be repealed. He writes:
 
. . . [D]erivatives counterparties, . . . unlike most other secured creditors, can seize and immediately liquidate collateral, readily net out gains and losses in their dealings with the bankrupt, terminate their contracts with the bankrupt, and keep both preferential eve-of-bankruptcy payments and fraudulent conveyances they obtained from the debtor, all in ways that favor them over the bankrupt’s other creditors.
 
. . . [W]hen we subsidize derivatives and similar financial activity via bankruptcy benefits unavailable to other creditors, we get more of the activity than we otherwise would. Repeal would induce these burgeoning financial markets to better recognize the risks of counterparty financial failure, which in turn should dampen the possibility of another AIG-, Bear Stearns-, or Lehman Brothers-style financial meltdown, thereby helping to maintain systemic financial stability.
 
In The New Financial Deal: Understanding the Dodd-Frank Act and Its (Unintended) Consequences, David Skeel agrees. He calls the Dodd-Frank policy approach “corporatism” – a partnership between government and corporations. Congress has made no attempt in the legislation to reduce the size of the big banks or to undermine the implicit subsidy provided by the knowledge that they will be bailed out in the event of trouble.
 
Undergirding this approach is what Skeel calls “the Lehman myth,” which blames the 2008 banking collapse on the decision to allow Lehman Brothers to fail. Skeel counters that the Lehman bankruptcy was actually orderly, and the derivatives were unwound relatively quickly. Rather than preventing the Lehman collapse, the bankruptcy exemption for derivatives may have helped precipitate it.  When the bank appeared to be on shaky ground, the derivatives players all rushed to put in their claims, in a run on the collateral before it ran out. Skeel says the problem could be resolved by eliminating the derivatives exemption from the stay of proceedings that a bankruptcy court applies to other contracts to prevent this sort of run.

Putting the Brakes on the Wall Street End Game

  Besides eliminating the super-priority of derivatives, here are some other ways to block the Wall Street asset grab:
 
(1) Restore the Glass-Steagall Act separating depository banking from investment banking. Support Marcy Kaptur’s H.R. 129.
 
(2) Break up the giant derivatives banks.  Support Bernie Sanders’ “too big to jail” legislation.
 
(3) Alternatively, nationalize the TBTFs, as advised in the New York Times by Gar Alperovitz.  If taxpayer bailouts to save the TBTFs are unacceptable, depositor bailouts are even more unacceptable.
 
(4) Make derivatives illegal, as they were between 1936 and 1982 under the Commodities Exchange Act. They can be unwound by simply netting them out, declaring them null and void.  As noted by Paul Craig Roberts, “the only major effect of closing out or netting all the swaps (mostly over-the-counter contracts between counter-parties) would be to take $230 trillion of leveraged risk out of the financial system.”
 
(5) Support the Harkin-Whitehouse bill to impose a financial transactions tax on Wall Street trading.  Among other uses, a tax on all trades might supplement the FDIC insurance fund to cover another derivatives disaster.
 
(5) Establish postal savings banks as government-guaranteed depositories for individual savings. Many countries have public savings banks, which became particularly popular after savings in private banks were wiped out in the banking crisis of the late 1990s.
 
(6) Establish publicly-owned banks to be depositories of public monies, following the lead of North Dakota, the only state to completely escape the 2008 banking crisis. North Dakota does not keep its revenues in Wall Street banks but deposits them in the state-owned Bank of North Dakota by law.  The bank has a mandate to serve the public, and it does not gamble in derivatives.
 
A motivated state legislature could set up a publicly-owned bank very quickly. Having its own bank would allow the state to protect both its own revenues and those of its citizens while generating the credit needed to support local business and restore prosperity to Main Street.
 
For more information on the public bank option, see here. Learn more at the Public Banking Institute conference June 2-4 in San Rafael, California, featuring Matt Taibbi, Birgitta Jonsdottir, Gar Alperovitz and others.  
 
________________
Ellen Brown is an attorney, chairman of the Public Banking Institute, and the author of eleven books, including Web of Debt: The Shocking Truth About Our Money System and How We Can Break Free. Her websites are webofdebt.com and ellenbrown.com.

40% OF EVERY DOLLAR WE SPEND ON GOODS AND SERVICES IS SYPHONED OFF THE TOP AS BANK INTEREST IN ONE FORM OR ANOTHER: THE CASE FOR DOING AWAY WITH THE FED, LET THE U.S. TREASURY PRINT MONEY AS NEEDED, AND FORM PRIVATE BANKS IN EVERY STATE THAT ARE PUBLICALLY ACCOUNTABLE FOR REGULATING THE MONEY SUPPLY

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April 29, 2012 at 12:58:11

Promoted to Headline (H3) on 4/29/12:     Permalink

A Cure-all for the Financial Ills of our time?

By Josh Mitteldorf (about the author)

          "Actually," says the Earthling, "there are building materials stockpiled just out of town."

" So, there are no workers to do the job?"

          "Actually, there are hordes of unemployed workers who would love to have the work."

" So -- what's the problem?"

          " Well, the way things work here, we need these pieces of green paper before we can get started..." 

" Beam me up! There's no intelligent life on this planet!"

Philadelphia -- There were two visions expressed at this weekend's first (annual?) convention of the Public Banking Institute. The first is the very practical idea that states and cities around America could be rescued from insolvency if they had their own banks, instead of relying on commercial banks to borrow money through bonds. Tax-exempt bond issues supply money to states and municipal governments typically at 5 or 6% interest, while banks these days are able to borrow from the Fed at 1/4% per year.

The second vision is hinted in the joke (above) that Board President Ellen Brown told as she opened her address to the group. It is the radically-subversive idea that the system we have for introducing money into the economy is a boon for the banks, but perhaps a major drag on our economy. Perhaps a simple, direct system of money creation by the Treasury Dept instead of the Fed would put an end to cycles of recession, and create a foundation for long-term prosperity.

Banking is a huge leech on our economy. 40% of every dollar we spend on goods and services -- 40% of all that we create and all we consume -- is siphoned off the top as bank interest in one form or another. (Calculations of Margrit Kennedy) The US Government is in the absurd position of paying interest to a private bank for every dollar that is put into circulation. The Federal Reserve system has privatized the power to create money, which, according to the Constitution, ought to belong to Congress alone. Presently, interest on the national debt costs the Federal government $500 billion in 2011, and (because of structural deficit spending) it is the fastest-growing portion of the Federal budget.

The problem is that an expanding economy needs an expanding money supply. But since 1913, the Federal Reserve (a private consortium of banks) creates the money, backed by new Treasury Notes (bonds) which the Federal Government issues. In essence, every dollar in the money supply represents a dollar of Federal debt. Interest on this debt grows exponentially -- which means it's not much of a problem until suddenly it is. It's a ticking time bomb.

We need another system.

It has not always been thus. Colonial America had paper money created separately by each colony -- a system promoted by young Benjamin Franklin in the 1730s. British King George put an end to the colonies' power, one of the inflammatory actions leading up to the Revolutionary War.

Fourscore and seven years later, President Lincoln financed the Civil War by printing "greenbacks" -- direct money creation by the Federal Government, a sound and simple and publicly-accountable system for regulating the money supply. The greenback system died with Lincoln.

Some say it's not an accident that the present monetary system is so dysfunctional that it is stifling economic activity, and so complicated that "only economists can understand it". The system has many victims, but there are a few who benefit. Carroll Quigley was a professor of history and Washington insider who wrote, in 1966:

[T]he powers of financial capitalism had another far-reaching aim, nothing less than to create a world system of financial control in private hands able to dominate the political system of each country and the economy of the world as a whole. This system was to be controlled in a feudalist fashion by the central banks of the world acting in concert, by secret agreements arrived at in frequent private meetings and conferences.  The apex of the system was to be the Bank for International Settlements in Basel, Switzerland, a private bank owned and controlled by the world's central banks which were themselves private corporations . (from Tragedy and Hope: A History of the World in Our Time (cited by Brown) 

A venerable voice at the conference was Bill Still, who has been educating the public on this issue for over 20 years. His video from the 1980s is available now on Youtube .

 

12-year-old Victoria Grant attended the conference with her Dad, and talked about the Canadian national bank that worked in the public interest for 30 years after its creation in 1939. Since 1974, however, Canada, like the US, has depended on private banks for its own currency, and the result has been an exponential spiral of debt. You can hear Victoria telling the emperor that he has no clothes on here.  

How to restore sanity to our monetary system? A direct assault on the Fed and the Wall St banks that own it pits us against a wall of opposition from some of the richest and most powerful organizations in the world. Let's start at a smaller scale, in the states and cities where American democracy still has some life and some room to move. States (with the exception of North Dakota) are all in trouble, slashing services and increasing taxes in response to the financial crisis of 2008, as the recession cuts into tax revenues just as more people are in need of public services.

There are bills introduced in legislatures of 17 states to create state-owned banks. Many of these are modeled on the example of North Dakota, the only state at present that has a state bank. North Dakota was insulated from the bank crisis of 2008, and the state is prospering recently, with the lowest unemployment rate, the lowest default rate on credit card debt, and lowest foreclosure rate in the 50 states. Economic historian Rozanne Ederson told us that North Dakotans love their bank now, but in 1919, its original implementation required a farm foreclosure crisis and a hotly-charged legislative battle.

The farmers who pushed through North Dakota's bank in 1919 were the radicals of their day. In Philadelphia this weekend are the people who aspire to carry their torch in a new century. They're up against The Bankers -- a rich and powerful force in opposition to change. But states are so desperate for cash these days, and the State Banks could potentially relieve so many ills that who knows -- it just might work!

PULLING BACK THE CURTAIN ON THE WALL STREET MONEY MACHINE

Ellen Brown
December 7, 2011
www.webofdebt.com/articles/pulling.php

On November 27, Bloomberg News reported the results of its successful case to force the Federal Reserve to reveal the lending details of its 2008-09 bank bailout. Bloomberg reported that by March 2009, the Fed had committed $7.77 trillion in below-market loans and guarantees to rescuing the financial system; and that these nearly interest-free loans came without strings attached.

The Fed insisted that the loans were repaid and there have been no losses, but the Bloomberg report said the banks reaped a $13 billion windfall in profits; and “details suggest taxpayers paid a price beyond dollars as the secret funding helped preserve a broken status quo and enabled the biggest banks to grow even bigger.”

The revelations provoked shock and outrage among commentators. But in a letter to the leaders of the House and Senate Committees focused on the financial services industry, Fed Chairman Ben Bernanke responded on December 6^th that the figures were greatly exaggerated. He said the loans were being double-counted: short-term loans rolled over from day to day were counted as separate cumulative loans rather than as a single extended loan.

Bloomberg was quick to rebut, denying any exaggerated claims. But either way, the banks were clearly getting perks not available to the rest of us. As Alan Grayson observed in a December 5th editorial:

The main, if not the sole, qualification for getting help from the Fed was to have lost huge amounts of money. The Fed bailouts rewarded failure, and penalized success. . . .

During all the time that the Fed was stuffing money into the pockets of failed banks, many Americans couldn’t borrow a dime for a home, a car, or anything else. If the Fed had extended $26 trillion in credit to the American people instead of Wall Street, would there be 24 million Americans today who can’t find a full-time job?

All in the Name of Liquidity

It was all explained, said Grayson, with “the Fed’s all-time favorite rationale for everything it does, ‘increasing liquidity.’” In 2008, bank liquidity dried up after Lehman Brothers collapsed, and the banks could not get the cheap, ready credit on which their lending scheme depends. The Fed then stepped in as “lender of last resort,” doing what it had to do to keep the banking scheme going.

Left unexplained is why the banks’ need for “liquidity” justifies such extraordinary measures. Why do banks need cheap and ready access to funds? Aren’t they the lenders rather than the borrowers of funds? Don’t they simply take in deposits and lend them out?

The answer is no. Today when banks make loans, they extend credit FIRST, then fund the loans by borrowing from the cheapest available source. If deposits are not available, they borrow from another bank, the money market, or the Federal Reserve.

Rather than loans being created from deposits, loans actually CREATE deposits. They create deposits when checks are drawn on the borrower’s account and deposited in another bank. The originating bank can then borrow these funds (or others created by the same process at another bank) at the Fed funds rate—currently a very low 0.25%. In effect, a bank can create money in the form of “bank credit,” lend it to a customer at high interest, and borrow it back at very low interest, pocketing the difference as its profit.

If all this looks like sleight of hand, it is. The process has been compared to “check kiting,” defined in Barron’s Business Dictionary as:

[An] illegal scheme that establishes a false line of credit by the exchange of worthless checks between two banks. For instance, a check kiter might have empty checking accounts at two different banks, A and B. The kiter writes a check for $50,000 on the bank A account and deposits it in the bank B account. If the kiter has good credit at bank B, he will be able to draw funds against the deposited check before it clears, that is, is forwarded to bank A for payment and paid by bank A. Since the clearing process usually takes a few days, the kiter can use the $50,000 for a few days and then deposit it in the bank A account before the $50,000 check drawn on that account clears.

Setting Things Right

As suspicious as all this appears, the economy actually needs an expandable credit system, and an expandable credit system needs a lender of last resort. What is wrong with the current scheme is that it discriminates against Main Street in favor of Wall Street. Banks can borrow very cheaply, while individuals, corporations and governments pay “whatever the market will bear.” The banker middlemen take their cut in a scheme in which money is actually manufactured in the process of lending it. The profits are siphoned off to the 1% at the expense of the 99%.

To fix the system, the profits need to be returned to the 99%. How that could be done was suggested by Thom Hartmann in a recent editorial:

Have the central bank owned by the US government and run by the Treasury Department, so all the profits . . . go directly into the Treasury and you and I pay less in taxes . . . .

For a model on the local level, he pointed to the Bank of North Dakota:

The good people of North Dakota . . . established something very much like this—the Bank of North Dakota—and it’s kept the state in the black, and kept its farmers, manufacturers and students protected from the predations of New York banksters for nearly a century. It’s time for every state to charter their own state bank, just like North Dakota did, and for the Treasury Department to either buy the Fed from the for-profit banks that own it, or simply nationalize it.

We have been distracted here and in Europe by a sudden panic over our “sovereign debt” crises, when the real crisis is that our debt is NOT sovereign. We are indentured to a Wall Street money machine that creates our money and lends it back to us at interest, money our sovereign government could be creating itself, with full democratic oversight and accountability to the people. We have forgotten our roots, when the American colonists thrived on a system of money created by the people themselves, debt-free and interest-free. The continued dominance of the Wall Street money machine depends on that collective amnesia. The fact that this memory is surfacing again may be the machine’s greatest threat—and our greatest hope as a nation.

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Ellen Brown is an attorney and president of the Public Banking Institute, http://PublicBankingInstitute.org. In Web of Debt, her latest of eleven books, she shows how a private cartel has usurped the power to create money from the people themselves, and how we the people can get it back. Her websites are http://WebofDebt.com and http://EllenBrown.com.

The Fed has created $12.3 trillion to bail out the banks, but has no intention of creating $140 billion to bail out the states (which would put back to work all those fired teachers, police, and firemen). It's all taxpayers' money. So why are we being denied even such a paltry share?

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THE FED HAS SPOKEN: NO BAILOUT FOR MAIN STREET

Ellen Brown, January 12th, 2011
http://www.webofdebt.com/articles/nobailout_mainstreet.php

The Federal Reserve was set up by bankers for bankers, and it has served them well. Out of the blue, it came up with $12.3 trillion in nearly interest-free credit to bail the banks out of a credit crunch they created. That same credit crisis has plunged state and local governments into insolvency, but the Fed has now delivered its ultimatum: there will be no “quantitative easing” for municipal governments.

On January 7, according to the Wall Street Journal, Federal Reserve Chairman Ben Bernanke announced that the Fed had ruled out a central bank bailout of state and local governments. "We have no expectation or intention to get involved in state and local finance," he said in testimony before the Senate Budget Committee. 

The states "should not expect loans from the Fed."

So much for the proposal of President Barack Obama, reported in Reuters a year ago, to have the Fed buy municipal bonds to cut the heavy borrowing costs of cash-strapped cities and states.

The credit woes of state and municipal governments are a direct result of Wall Street’s malfeasance. Their borrowing costs first shot up in 2008, when the “monoline” bond insurers lost their own credit ratings after gambling in derivatives. The Fed’s low-interest facilities could have been used to restore local government credit, just as it was used to restore the credit of the banks. But Chairman Bernanke has now vetoed that plan.

Why? It can hardly be argued that the Fed doesn’t have the money. The collective budget deficit of the states for 2011 is projected at $140 billion, a mere drop in the bucket compared to the sums the Fed managed to come up with to bail out the banks. According to data recently released, the central bank provided roughly $3.3 trillion in liquidity and $9 trillion in short-term loans and other financial arrangements to banks, multinational corporations, and foreign financial institutions following the credit crisis of 2008.

The argument may be that continuing the Fed’s controversial “quantitative easing” program (easing credit conditions by creating money with accounting entries) will drive the economy into hyperinflation. But creating $12.3 trillion for the banks -- nearly one hundred times the sum needed by state governments -- did not have that dire effect. Rather, the money supply is shrinking – by some estimates, at the fastest rate since the Great Depression. Creating another $140 billion would hardly affect the money supply at all.

Why didn’t the $12.3 trillion drive the economy into hyperinflation? Because, contrary to popular belief, when the Fed engages in “quantitative easing,” it is not simply printing money and giving it away. It is merely extending CREDIT, creating an overdraft on the account of the borrower to be paid back in due course. The Fed is simply replacing expensive credit from private banks (which also create the loan money on their books) with cheap credit from the central bank.  

So why isn’t the Fed open to advancing this cheap credit to the states? According to Mr. Bernanke, its hands are tied. He says the Fed is limited by statute to buying municipal government debt with maturities of six months or less that is directly backed by tax or other assured revenue, a form of debt that makes up less than 2% of the overall muni market. Congress imposed that restriction, and only Congress can change it.

That may sound like he is passing the buck, but he is probably right. Bailing out state and local governments IS outside the Fed’s mandate. The Federal Reserve Act was drafted by bankers to create a banker’s bank that would serve their interests. No others need apply. The Federal Reserve is the bankers’ own private club, and its legal structure keeps all non-members out.  

Earlier Central Bank Ventures into Commercial Lending

That is how the Fed is structured today, but it hasn’t always been that way. In 1934, Section 13(b) was added to the Federal Reserve Act, authorizing the Fed to “make credit available for the purpose of supplying working capital to established industrial and commercial businesses.” This long-forgotten section was implemented and remained in effect for 24 years. In a 2002 article called “Lender of More Than Last Resort” posted on the Minneapolis Fed’s website, David Fettig summarized its provisions as follows:

- [Federal] Reserve banks could make loans to any established businesses, including businesses begun that year (a change from earlier legislation that limited funds to more established enterprises).

- Reserve banks were permitted to participate [share in loans] with lending institutions, but only if the latter assumed 20 percent of the risk.

- No limitation was placed on the amount of a single loan.

- A Reserve bank could make a direct loan only to a business in its district.

Today, that venture into commercial banking sounds like a radical departure from the Fed’s given role; but at the time it evidently seemed like a reasonable alternative. Fettig notes that “the Fed was still less than 20 years old and many likely remembered the arguments put forth during the System's founding, when some advocated that the discount window should be open to all comers, not just member banks.” In Australia and other countries, the central bank was then assuming commercial as well as central bank functions.

Section 13(b) was repealed in 1958, but one state has kept its memory alive. In North Dakota, the publicly owned Bank of North Dakota (BND) acts as a “mini-Fed” for the state. Like the Federal Reserve of the 1930s and 1940s, the BND makes loans to local businesses and participates in loans made by local banks.

The BND has helped North Dakota escape the credit crisis. In 2009, when other states were teetering on bankruptcy, North Dakota sported the largest surplus it had ever had. Other states, prompted by their own budget crises to explore alternatives, are now looking to North Dakota for inspiration.

The “Unusual and Exigent Circumstances” Exception

Although Section 13(b) was repealed, the Federal Reserve Act retained enough vestiges of it in 2008 to allow the Fed to intervene to save a variety of non-bank entities from bankruptcy. The problem was that the tool was applied selectively. The recipients were major corporate players, not local businesses or local governments. Fettig writes:

Section 13(b) may be a memory, . . . but Section 13 paragraph 3 . . . is alive and well in the Federal Reserve Act. . . . [T]his amendment allows, "in unusual and exigent circumstances," a Reserve bank to advance credit to individuals, partnerships and corporations that are not depository institutions.

In 2008, the Fed bailed out investment company Bear Stearns and insurer AIG, neither of which was a bank. John Nichols reports in The Nation that Bear Stearns got almost $1 trillion in short-term loans, with interest rates as low as 0.5%. The Fed also made loans to other corporations, including GE, McDonald’s, and Verizon.

In 2010, Section 13(3) was modified by the Dodd-Frank bill, which replaced the phrase “individuals, partnerships and corporations” with the vaguer phrase “any program or facility with broad-based eligibility.” As explained in the notes to the bill:

Only Broad-Based Facilities Permitted. Section 13(3) is modified to remove the authority to extend credit to specific individuals, partnerships and corporations. Instead, the Board may authorize credit under section 13(3) only under a program or facility with “broad-based eligibility.”

What programs have “broad-based eligibility” isn’t clear from a reading of the Section, but long-term municipal bonds are evidently excluded. Mr. Bernanke said that if municipal defaults became a problem, it would be in Congress’ hands, not his.

Congress could change the law, just as it did in 1934, 1958, and 2010. It could change the law to allow the Fed to help Main Street just as it helped Wall Street. But as Senator Dick Durbin blurted out on a radio program in April 2009, Congress is owned by the banks. Changes in the law today are more likely to go the other way. Mike Whitney, writing in December 2010, noted:

So far, not one CEO or CFO of a major investment bank or financial institution has been charged, arrested, prosecuted, or convicted in what amounts to the largest incident of securities fraud in history. In the much-smaller Savings and Loan investigation, more than 1,000 people were charged and convicted. . . . [T]he system is broken and the old rules no longer apply.

The old rules no longer apply because they have been changed to suit the moneyed interests that hold Congress and the Fed captive. The law has been changed not only to keep the guilty out of jail but to preserve their exorbitant profits and bonuses at the expense of their victims.

To do this, the Federal Reserve had to take “extraordinary measures.” They were extraordinary but not illegal, because the Fed’s congressional mandate made them legal. Nobody’s permission even had to be sought. Section 13(3) of the Federal Reserve Act allows it to do what it needs to do in “unusual and exigent circumstances” to save its constituents.

If you’re a bank, it seems, anything goes. If you’re not a bank, you’re on your own.

So Who Will Save the States?

Highlighting the immediacy of the local government budget crisis, The Wall Street Journal quoted Meredith Whitney, a banking analyst who recently turned to analyzing state and local finances. She said on a recent broadcast of CBS's "60 Minutes" that the U.S. could see "50 to 100 sizable defaults" in 2011 among its local governments, amounting to "hundreds of billions of dollars."

If the Fed could so easily come up with 12.3 trillion dollars to save the banks, why can’t it find a few hundred billion under the mattress to save the states? Obviously it could, if Congress were inclined to put non-bank lending back into the Fed’s job description. Then why isn’t that being done?

The cynical view is that the states are purposely being kept on the edge of bankruptcy, because the banks that hold Congress hostage want the interest income and the control.

Whatever the reason, Congress is standing down while the nation is sinking. Congress must summon the courage to take needed action; and that action is not to impose “austerity” by cutting services, at a time when an already-squeezed populace most needs them. Rather, it is to create the jobs that will generate real productivity. To do this, Congress would not even have to go through the Federal Reserve. It could issue its own debt-free money and spend it on repairing and modernizing our decaying infrastructure, among other needed works.  Congress’ task will become easier if the people stand with them in demanding action, but Congress is now so gridlocked that change may still be long in coming.

In the meantime, the states could take matters in their own hands and set up their own state-owned banks, on the model of the Bank of North Dakota. They could then have their own very-low-interest credit lines, just as the Wall Street banks do. Rather than spending or selling off valuable public assets, or hoarding them in massive rainy day funds made necessary by the lack of ready credit, states could LEVERAGE their assets into a very strong and abundant local credit system, following the accepted business practices of the Wall Street banks themselves.

The Public Banking Institute is being launched on January 13 to explore that alternative. For more information, see http://PublicBankingInstitute.org.

Ellen Brown is an attorney and the author of eleven books, including Web of Debt: The Shocking Truth About Our Money System and How We Can Break Free. Her websites are webofdebt.com, ellenbrown.com, and public-banking.com.

Bank of America is Dead Man Walking. If Congress passes a law to legalize their crimes and reimburse their losses with taxpayer money, it'll be time to rebel.

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Alternet/ By Joshua Holland

Bank of America Is in Deep Trouble, and There May Be Financial Disaster on the Horizon

Its stock value has dropped 40 percent since April, and the bank is mum on what losses it's hiding on its $2.3 trillion balance sheet.

November 11, 2010 | Will Bank of America be the first Wall Street giant to once again point a gun to its own head, telling us it'll crash and burn and take down the financial system if we don’t pony up for another massive bailout?

When former Treasury Secretary Hank Paulson was handing out trillions to Wall Street, BofA collected $45 billion from the Troubled Asset Relief Program (TARP) to stabilize its balance sheet. It was spun as a success story -- a rebuke of those who urged the banks be put into receivership -- when the behemoth “paid back” the cash last December. But the bank’s stock price has fallen by more than 40 percent since mid-April, and the value of its outstanding stock is currently at around half of what it should be based on its “book value” -- what the company says its holdings are worth.

“The problem for anyone trying to analyze Bank of America’s $2.3 trillion balance sheet,” wrote Bloomberg columnist Jonathan Weil, “is that it’s largely impenetrable.” Nobody really knows the true values of the assets these companies are holding, which has been the case ever since the collapse. But according to Weil, some of BofA’s financial statements “are so delusional that they invite laughter.”

Weil points to the firm’s accounting of its purchase of Countrywide Financial -- the criminal enterprise at the center of the sub-prime securitization market. Bank of America, Weil notes, hasn’t written off Countrywide’s entire value. “In its latest quarterly report with the SEC,” he wrote, “Bank of America said it had determined the asset wasn’t impaired. It might as well be telling the public not to believe any of the numbers on its financial statements.”

With investors valuing BofA at half the worth that the bank claims, it’s one titan of Wall Street that may be on the brink of collapse. But it’s not alone. “Everybody was doing this, this is not just something that Countrywide and Bank of America were doing," legendary investor Jim Rogers told CNBC. As a result, the banks’ balance sheets are "full of rotten stuff" that “is going to be a huge mess for a long time to come.”

And that “rotten stuff” will continue to be a drag on the brick-and-mortar economy until the mess gets cleaned up. Which, in turn, is a powerful argument for a second dip into the public trough.

When the financial crisis hit, those of us who view the free market as more than a hollow slogan urged the government to take over the ailing giants of Wall Street, wipe out their investors, send their parasitic management teams to the unemployment line and gradually unwind the huge pile of “toxic” assets that they’d amassed before selling them back, leaner and meaner, to the private sector.

It worked in the past -- it was Ronald Reagan’s response to the Savings and Loan crisis of the 1980s. But that was then, and today Reaganite policies are deemed to be “creeping socialism” -- thoroughly unacceptable. We were told the banks were too big to fail, and Bush saw eye-to-eye with Republicans and Blue Dogs in Congress and bailed the banks out without exacting a penalty in exchange for the taxpayers' largesse. They socialized the risk, but the financial industry went right back to its old tricks, paying its execs fat bonuses and playing fast and loose with its accounting.

Much of that toxic paper remains on their books -- somewhere. The assets are still impossible to price and now several Wall Street titans appear to be approaching a tipping point, poised to once again to extort a mountain of cash from our Treasury by claiming to be too big -- and interconnected -- to crash and burn as the principles of the free market would otherwise dictate.

There are alternatives. As in 2008, the federal government could put failing financial institutions into receivership. But some experts are saying that if we want to get off the roller coaster of an economy moving from one financial bubble to the next, a bolder approach is necessary: permanent nationalization of banks that can’t survive without public dollars.

“Inevitably, American taxpayers are going to pick up much of the tab for the banks' failures,” wrote Nobel prize-winning economist Joseph Stiglitz last year. “The question facing us is, to what extent do we participate in the upside return?” Stiglitz argued that the government should take “over those banks that cannot assemble enough capital through private sources to survive without government assistance.”

To be sure, shareholders and bondholders will lose out, but their gains under the current regime come at the expense of taxpayers. In the good years, they were rewarded for their risk-taking. Ownership cannot be a one-sided bet.

But there’s a difference between then and now. At the time, most of us saw the crash as a result of hubris and greed run amok in an under-regulated financial sector. Now, we know the financial crisis was the result of unchecked criminality -- that fraud was perpetrated, in the words of University of Missouri scholar (and veteran regulator) William Black, “at every step in the home finance food chain.” As Black and economist L. Randall Wray wrote recently:

The appraisers were paid to overvalue real estate; mortgage brokers were paid to induce borrowers to accept loan terms they could not possibly afford; loan applications overstated the borrowers' incomes; speculators lied when they claimed that six different homes were their principal dwelling; mortgage securitizers made false [representations] and warranties about the quality of the packaged loans; credit ratings agencies were overpaid to overrate the securities sold on to investors; and investment banks stuffed collateralized debt obligations with toxic securities that were handpicked by hedge fund managers to ensure they would self destruct.

That homeowners would default on the nonprime mortgages was a foregone conclusion throughout the industry -- indeed, it was the desired outcome. This was something the lending side knew, but which few on the borrowing side could have realized.

And since the crash, they’ve committed widespread foreclosure fraud, dutifully whitewashed by the corporate media as nothing more than some “paperwork” problems resulting from a handful of “errors.”

It is anything but. As Yves Smith, author of Econned: How Unenlightened Self-Interest Undermined Democracy and Corrupted Capitalism, wrote in the New York Times, “The major banks and their agents have for years taken shortcuts with their mortgage securitization documents — and not due to a momentary lack of attention, but as part of a systematic approach to save money and increase profits.”

Increasingly, homeowners being foreclosed on are correctly demanding that servicers prove that the trust that is trying to foreclose actually has the right to do so. Problems with the mishandling of the loans have been compounded by the Mortgage Electronic Registration System, an electronic lien-registry service that was set up by the banks. While a standardized, centralized database was a good idea in theory, MERS has been widely accused of sloppy practices and is increasingly facing legal challenges.

Judges are beginning to demand that the banks show their work -- prove they have the right to foreclose -- and in many instances they can’t, having sliced and diced those mortgages up into a thousand securities without bothering to verify the paperwork as most states require by law. This leaves what Smith calls a “cloud of uncertainty” hanging over trillions in mortgage-backed securities -- the largest class of assets in the world -- and preventing a real recovery of the housing market. In turn, that is holding back the economy at large; according to the International Monetary Fund, it’s the drag of the housing mess that’s causing the high and sustained levels of unemployment we see today.

Big financial firms have also been cooking their books in order to obscure how shaky their balance sheets really are because honest accounting would likely bring an end to those big bonuses that drive “the Street.” Yet a day of reckoning may be fast approaching.

If the worst-case scenario should come to pass, with the banks hit by thousands of lawsuits, unable to foreclose on properties in default and with investors running for the hills, expect to hear calls for TARP II. It’d be a very heavy political lift, but given Congress’s fealty to Wall Street it could plausibly be passed.

There are alternatives. As in 2008, the federal government could put failing financial institutions into receivership. But some experts are saying that if we want to get off the roller coaster of an economy moving from one financial bubble to the next, a bolder approach is necessary: permanent nationalization of banks that can’t survive without public dollars.

“Inevitably, American taxpayers are going to pick up much of the tab for the banks' failures,” wrote Nobel prize-winning economist Joseph Stiglitz last year. “The question facing us is, to what extent do we participate in the upside return?” Stiglitz argued that the government should take “over those banks that cannot assemble enough capital through private sources to survive without government assistance.”

To be sure, shareholders and bondholders will lose out, but their gains under the current regime come at the expense of taxpayers. In the good years, they were rewarded for their risk-taking. Ownership cannot be a one-sided bet.

Of course, most of the employees will remain, and even much of the management. What then is the difference? The difference is that now, the incentives of the banks can be aligned better with those of the country. And it is in the national interest that prudent lending be restarted.

Leo Panitch, a professor of comparative political economy at Canada’s York University, wrote that "the prospect of turning banking into a public utility might be seen as laying the groundwork for the democratization of the economy.”

Ellen Brown, author of Web of Debt, points to the success of the nation’s only government-owned bank, the Bank of North Dakota. “Last year,” she wrote, “North Dakota had the largest budget surplus it had ever had…and it was the only state that was actually adding jobs when others were losing them.”

North Dakota has an abundance of natural resources, including oil, but as Brown notes, other states that enjoy similar riches were deep in the red. “The sole truly distinguishing feature of North Dakota seems to be that it has managed to avoid the Wall Street credit freeze by owning and operating its own bank.” She adds that the bank serves the community, making “low-interest loans to students, farmers and businesses; underwrit[ing] municipal bonds; and serv[ing] as the state’s 'Mini Fed,' providing liquidity and clearing checks for more than 100 banks around the state.”

Several states have considered proposals to emulate North Dakota, but such a bold move would obviously be all but impossible in Washington. But it shouldn’t be off the table. Banks provide an “intermediary good” to the economy, creating no real value. But Big Finance’s speculation economy has caused great and real pain for the rest of us. As Joe Stiglitz put it, there’s no reason in the world the incentives of the banks shouldn’t be better aligned with the interests of the country and its citizens.

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Joshua Holland is an editor and senior writer at AlterNet. He is the author of The 15 Biggest Lies About the Economy (and Everything else the Right Doesn't Want You to Know About Taxes, Jobs and Corporate America). Drop him an email or follow him on Twitter.

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Blogger's Note: Some significant details of the hole that Bank of America has dug itself into can be found here.