LJWorld.com

ben-bernanke-time-cover.jpg

[Skip to the last paragraph for the main point if you don't want to read it all]

First of all, how does the Fed work? Let's say Congress wants to spend a million dollars, but raising taxes is unpopular, and if it borrows too much from people in the private sector or other governments, interest rates go up and eventually it becomes too expensive or people will stop lending to us because they worry about our ability to repay. So instead the Treasury sells bonds for a million dollars to private investors. The Fed can then come in and buy those bonds from the person who lent the money to the Treasury, so that the bonds that the Treasury issued end up on the balance sheet of the Fed. Now where does the Fed get the money? Is Bernanke out mowing lawns and babysitting? No, he just writes a check drawn on the Federal Reserve, basically creating money out of thin air.

What's the point of all this? Well, as I said before, the problem with borrowing a lot of money is that interest rates will go up, and eventually Congress will have to stop spending (and we can't have that!). When the Fed buys up the Treasury debt, it keeps interest rates low so that Congress can afford to spend a whole lot more money. In addition, while the Treasury is paying interest on the bonds that are sitting on the Fed's balance sheet, whatever earnings are left over after the Fed pays its expenses are remitted to the Treasury. Hence it's almost a free loan, meaning even more money can be issued for more governemnt spending.

Not only is the Fed creating a million dollars out of thin air, but this money is often going to banks, and under fractional reserve banking this million can become ten million in bank loans, hence driving up inflation and giving a free nine million to the banks. That’s why the banks love this system which is basically fraud. The bank doesn’t really have ten million which it is lending out. Of course the problem is that if the bank makes too many bad loans, it’s going to be in trouble since there isn't any real money backing the loans up, and we've seen over the past couple years what can happen.

Now, however, the Fed will come in and save them by buying the bad loans, again by simply writing a check with money coming out of thin air. This is completely unprecedented, as before the Fed almost exclusively bought government debt. Now Bernanke has the power of life and death, choosing which banks he wants to save from their own mistakes by buying their bad assets at face value.

When you are guaranteed to be saved from bad choices in a system like this, is it any wonder we had a banking crisis? For all the talk about reform, nothing has been done about the underlying causes of the banking crisis, but instead only more perverse incentives have been created since now Bernanke and the Fed will step in and buy up your bad assets if you take too many risks. Where's the incentive to be a prudent banker if you have a safety net based on money created out of thin air?

What's worse is that all this is done entirely in secret. Bernanke has been asked time and again where all the billions of dollars are going and he has refused to divulge that information. Think about that: this man can write checks for billions of dollars, give them to private individuals, and he doesn't have to tell anyone, even Congress, who he's writing the checks to and for how much. Obama doesn't have that kind of power. Congress doesn't have that kind of power, but Bernanke does. This is the most powerful man on the planet.