Sunday, August 3, 2008

Column #7 Anniversary of a Bridge Collapse

(Week 2 - Monday Aug. 4)

I am writing this column little more than a mile away from where the Interstate 35W bridge over the Mississippi River in Minneapolis collapsed on August 1 of last year. This tragedy that took the lives of 13 people was marked over the weekend in somber memorial events. These were accompanied by lamentations throughout the media that the nation has taken few steps since this "wake-up call" to rejuvenate its crumbling infrastructure. The determination on the part of the body public to rectify this deplorable situation is, it seems, still there, but where is the money? I would assert that it is readily available. We just aren't seeing it.

The I35W bridge is part of what might be termed the "commons"; i.e. the property that is held in common by all the people for the benefit of the common good. The "commons," of course, includes almost all bridges, roads, schools, emergency services, parks, provisions for the common defense, and other public assets that are indispensable to the full pursuit of life, liberty and happiness in a healthy society. There is, however, one element of the commons that is perhaps the most essential, and yet I have never specifically heard it recognized as such. It is our "money." It is the one element of the public domain that we all hold most in common.

Think about it. Anyone in the nation was free (while it was standing) to pass over the I35W bridge in Minneapolis, but in reality only a very small portion of the population of the nation ever would. What is more, after the bridge went down, ways of circumventing it locally were quickly identified, and the life of the city went on essentially normally. The bridge served the nation, but only a small portion directly.

Now think about a dollar in your pocket. It looks exactly like the dollar in anyone else's pocket. Do you not let it rest there complacent in the assurance that it can be brought out when needed to pay for anything a dollar will buy? This could be for a cup of coffee (assuming one can find one that cheaply these days) in New York, California, Florida, Alaska or Minnesota. Is this not an assurance that we all hold blithely from corner to corner of the nation, even to the point of hardly actually thinking about it? Is not our money in fact the most commonly held and used element of the public domain?

The founders of our country knew how essential public ownership of public money was. That is why, for example, the Colonies before the Revolution insisted on the right to issue their own currency ("bills of credit"), instead of having to borrow their money supply from a private bank (Bank of England) at "interest." It is why they financed the establishment of the nation with the publicly issued "Continental Currency." It is also why, when the nation was again locked in a struggle for its very existence, Abraham Lincoln issued $450 million dollars worth of publicly issued bills, popularly known as the "Greenbacks" (after, of course, coming under intense pressure to borrow the money from banks).

This first anniversary of the Minneapolis bridge collapse is a reminder that the nation is again under threat, in part from the crumbling of its very physical base, and as before, money borrowed at "interest" from banks is not going to save it. In fact, I would argue, the reliance on debt-based private money is how we got into this predicament. It has for some generations been the norm that when any community, be it local or the nation as a whole, saw the need to make investments in the common infrastructure, it was faced with the (assumed) necessity of paying for the project two or three times over due to the compounding "interest" charge attached to money needed to implement the project. This means that over the years a vast amount if infrastructure construction and revitalization did not get funded. Part of the cost of that backlog manifested in Minneapolis, and it proved to be high. In New Orleans it was incalculable. What will be the physical and human costs in the future?

We as a nation have forgotten that money too (perhaps money above all) is a fundamental element of the commons. Why, then, cannot public money be issued out of the Constitutional authority of the Congress "To coin Money, regulate the Value thereof . . ." to provide for the common good (a critical bridge or levee when needed)? The answer, I believe, is that it can be done, and is indeed the economic, legal and moral way to finance essential public works.

Richard Kotlarz

Column #6 Recap of Private Bank Loan Transaction

(Week 1 -Saturday Aug. 2)

In Col. 3 I posed the query, "Where does our money come from?", and then suggested that for greater specificity the question could be broken down into three parts. These can now be answered concisely:

(1) What is the procedure by which dollars are created? – Dollars are created in the moment a banker "writes the check" to, or credits the account of, a person who is in the process of borrowing money from a private bank. The principal sum of the "loan" is newly-created money.

(2) How do they enter into circulation? – These newly-created dollars enter into circulation when the person who takes out the loan spends the money for whatever purpose the loan was taken out for.

(3) Who controls the process? – The money creation process is controlled by a private banking system.

In Col. 4, "The Problem of Interest," I made what to many must seem to be, at least a bold, perhaps an outlandish assertion that the attachment of a compounding "interest" fee to the basic private bank loan transaction by which our money is created and enters into circulation constitutes "the very engine of the economic trauma we are facing at the present time." This point can also be described in three parts:

(1) Within the present system, there is attached to the issuance of money a compounding "interest" charge. By the terms of the basic bank loan transaction, the money to repay the principal sum of the loan was created and issued, but the money to pay the "interest" was not.

(2) This leads to a situation whereby the money to make the "interest" payments can only come from (be taken out of) the outstanding principal balance of other people's loans still in circulation.

(3) This creates the effective necessity for people in the economy as a whole to go deeper into "debt" (i.e. borrow and spend more money into circulation) on a continuous basis in order to make the principal payments on old "debt," keep up with the demand for ever-compounding "interest" payments, plus maintain enough money in circulation to have an adequate money supply.

Finally, in Col.5, I offered an answer to the question, "Where Does Our Money Go?" when we make a payment on a loan we took out from a private bank. I said that the bank divides the payments received into two parts. Again, this process can be summed up in three points:

(1) One part of the payment is applied to retiring the principal sum of the money borrowed. This money is extinguished, and no longer exists.

(2) The other part, the payment on the "interest", is not extinguished, but passes into the account of a speculator who has purchased the contract by which the loan was secured (the contract signed by the borrower).

(3) The speculator who buys the contract, typically, is not interested in returning the money to circulation within the public money supply, which he could do by simply spending his profit from holding the loan contract. Rather, he elects to "re-invest" the money. That is to say, he holds it out of circulation until he finds someone who is willing to borrow his money at still more interest. The new borrower, then, will spend it back into the monetary stream.

This "re-investment" can take on many guises (which we will talk about as these columns unfold). In any case, the net effect is to cause the "debt" burden against the money supply to grow, without increasing the size of the money supply. As these "interest"-payment dollars are loaned back into circulation there are no new dollars created and spent into the money supply, but these "interest"-payment dollars have thereby been transformed into new "debt". The resulting shortfall in the money supply in relation to the "debt-load" it is obliged to support eventually forces someone to go to a bank to borrow-&-spend more money into circulation, which, in turn, initiates a whole new round of the private-bank-loan, debt-money-creation process.

While for simplicity I am describing this cycle in terms of an isolated case, it is a process that happens millions of times daily, and is causing the nation's, and now the world's, economy to sink ever further under a crushing "debt" burden. I have never found this described in any explicit way in the media. In fact, I have found it very difficult to find an explicit description of what is happening in academic offerings, yet the way money is created at present is the very engine that is driving our economic distress. I would suggest that we will never see what lies behind the headlines unless we understand the nature of the money-creation-by-private-bank-loan transaction.

If I seem to belabor this point, I ask the reader's patience. I feel that the relatively small amount of time spent in coming to an understanding of how our money is created and controlled will pay great dividends in arriving at an understanding of what we are seeing in the news. I thank you for your considerate patience.

Beginning Monday, I will return more explicitly to the financial stories appearing in the media, but this time with the basis for a new way to talk about them. Hopefully, a deeper truth about what they are saying about our economic lives will be revealed. Whether or not this proves to be so is, ultimately, up to the reader. I welcome any questions, thoughts and commentary.

My sincere thanks for your thoughtful consideration,

Richard Kotlarz

Column #5 Where Does Our Money Go?

(Week 1 - Friday Aug. 1)

Two days ago, in Col. 3, we examined the question "Where does our money come from?" I described a the classic bank-loan process whereby the banker actually creates the money "loaned" when he "writes the check" (or credits the borrowers account with new funds), and then the borrower puts the money into circulation when he spends it for whatever purpose he took out the loan to satisfy.

Yesterday, in Col. 4, we examined the "problem of interest." That is, I described how the total outstanding principle balances of all loans from the banking system constitute the money supply with which we conduct our business, and that, in the aggregate, the money to pay back the principal sum of the all these loans is thereby available. I also pointed out that the money needed to make the "interest" payments was never issued, and so can be obtained only by subtracting it from the outstanding principal balances of other people's loans. This creates a situation whereby for people to continue to repay their loans, make their "interest" payments, and keep in circulation an adequate money supply, those participating in the economy must as a whole go continually deeper into "debt." If that fails to happen within the present system, we all face a catastrophic contraction of the money supply.

The subject for today is, "Where does our money go?" Our money circulates between the participants in the economy until we make a payment on our loan from the bank. When received at the bank, this payment is divided into two parts. A certain portion is applied to the principal sum originally borrowed; i.e. it is credited toward the retirement of the debt. The bank created this money "out of thin air," and it is extinguished "back to thin air." It no longer exists.

The part of the payment applied to the interest, however, is not extinguished, but is credited to the account of the "owner" of the "debt." This is to say, it is paid to whoever bought the rights to the "mortgage" (or whatever contract secured the loan). Typically, banks gather up ("bundle") the contracts, and sell them to speculators who have an interest in being the beneficiaries of the "interest" payments. These "interest" payments constitute the "profit" on the speculator's "investment," and they are deposited in speculators accounts.

Technically, this "interest"-payment money has not been withdrawn from circulation, and so cannot strictly be said to have been subtracted from the money supply. Indeed, it could be freely spent (or gifted to someone) by the investor, and in that way reenter the money supply, where it would still be available to pay back the principal balances on outstanding loans.

In practice, though, by far the majority of investors in "debt-paper" or "debt-instruments" (as such mortgages or other debt contracts might be called) are not interested in spending the profits. Their purpose is to turn them into still more money. Typically, they will withhold the money they collect from interest payments out of general circulation, until, that is, someone offers to borrow it from them ("at interest," of course). This can take many forms (direct lending, buying municipal bonds, buying the rights to more loan contracts, etc.), but in any case it means that this money will re-enter circulation with more "debt" attached to it.

Now we have the same money supply, but an additional "debt"-payback obligation has been added to it. Of course, there is not only one borrower's "interest" payment that is being transferred into and re-lent out of the accounts of monetary speculators, but everyone's. Eventually the entire money supply is run through this interest-payment-converted-to-more-debt mill. Those that have money to "invest" in this particular way (not all investment money fits this description) get richer, and the relatively poorer folks who are working for a living and paying their bills continue going deeper into debt. The "interest" charged on bank loans is (under the current system) the main engine of unearned wealth transfer in the society, and the problems unleashed thereby are written in the dire financial headlines of our morning newspapers.

Richard Kotlarz

Column #4 The Problem of "Interest"

(Week 1 - Thursday July 31)

In yesterday's column I stated that, within our present system, the money "loaned" by a banker is created with the "stroke of a pen," so to speak, when the banker writes "the check" (or electronically credits the account). Most people assume that he gets the funds from money on deposit at his bank. Not so! In the moment before the banker "signed the check" (or approved the deposit) he is passing to the borrower, the money did not exist. The moment after he "signs the check," it does exist. This is the threshold of money creation within our monetary system. This confirmed in the Federal Reserve's own publications. In a booklet published by the Fed, "Everyday Economics," the section titled "How Banks Create Money" states as its opening sentence "Banks actually create money when they lend it."

The money so created (the principal sum) will be spent into circulation by the borrower. By the contract associated with the loan, the borrower agrees to pay back the principal sum borrowed, but also a compounding "interest" fee. I stated in yesterday's column that virtually all the monetary woes in the modern world arise from the nature of this "private-bank-loan" transaction by which our money comes into being. It is this compounding "interest" fee that is the source of the problem. Permit me to explain why.

Soon after a person "borrows" money from a bank, he "cashes the check" or puts it on deposit (at the same bank, or another), typically in a checking account, and then proceeds to spend the money. As he spends the money, it enters into circulation, and becomes blended into the already existent monetary pool. That monetary pool already exists because millions of other people have, before our representative borrower came along, also borrowed money from a bank and spent it into circulation. He is only adding his little stream.

It follows, then, that the monetary pool (the public's "money supply") is the sum total of all outstanding principal balances of all money still out on "loan," at any given time, from the banking system. Therefore, the principal sum of money owed to the banking system through these loans in fact exists in circulation, and can therefore be paid back. The money to make the "interest" payments, however, was never issued, and so does not exist in circulation.

But, one might say, people make interest payments, and bank loans are satisfied all the time. This is true, but the pertinent question then becomes, if the money to make the "interest" payments was never issued, where are these "interest" payments coming from? The answer is that it is subtracted out of the principal sum of other people's loans still in circulation (what is commonly called their "outstanding principal balance"). The fact that this subtraction takes place means that when these folks come to make the payments on their loans, there will not be enough money circulating in the money supply, on the whole, to make them. Eventually, someone will be obliged to borrow more money from a bank so that these funds become available.

If we were talking about an isolated transaction here, then one could say that this was not much of a problem, but the simple truth is that principal sum of every loan (i.e. every dollar) in existence will have to be repaid, with "interest," and so over time the entire money supply is being turned back in to the banks, accompanied by a net subtraction from the principal sum of outstanding balances still circulating.

If one "follows the math" on this, one comes to see that the only practical way bank loans can be paid back, "interest" payments made, and an adequate money supply maintained, is for the participants in the economy in the aggregate to borrow more money into existence (go deeper into debt) on a continuous basis. The alternative is a catastrophic contraction of the money supply (which is what caused the "Great Depression").

Relatively speaking, there will be winners and losers in this process (and many who "win" will point out that they stayed out of debt, and offer their personal case as evidence that with hard work and diligence it can be done by anyone), but it is a virtual certainty that the mass of the people, mostly those who are the producers in the economy, will be obliged to slip further into "debt" on a continuing basis.

Eventually any society that issues money this way will find itself staggering under an unpayable burden of "debt," until, financially and otherwise, it collapses. Judging by the newspapers, we are getting very close to that point now. The sheer magnitude of the proposed "bailout" schemes ($30 billion for Bears-Stearns, $300 billion for Fannie Mae and Freddie Mac), the gargantuan and still exploding size of the Federal "debt" ($9.4 trillion), the staggering size of the "balance of trade deficit" ($700 billion last year), and the burden of financial misery people endure in their lives are all unmistakable signs that the time of reckoning with the flawed basis of our monetary system is fast approaching. The view I hear almost continuously now from people that I talk to is "This can't go on." Clearly, it can't.

This private-bank-loan process, with its compounding "interest" fee is the very engine of the economic trauma we are facing at the present time. To see this clearly would be the essential first step in setting our economic house in order.

Richard Kotlarz

Column #3 Where Does Our Money Come From?

(Week 1 - Wednesday July 30)

As I travel around the country talking about money, I often ask people - "Where does our money come from?" I don't mean where do the paper notes that are used to represent dollars come from. Those are obviously printed. No, I am talking about money itself; the credits that paper dollars represent, which convey the power to buy something.

For greater specificity, the question might be broken down into three parts:

(1) What is the procedure by which dollars are created?
(2) How do they enter into circulation?
(3) Who controls the process?

Over the years I have only rarely found a person who can offer a clear and accurate answer to the where-money-comes-from question. Surprisingly, politicians, financiers, and even economists, fare only marginally better than the man on the street. This is astonishing in a nation that prides itself on its financial sophistication and has built up a vast financial network that now reaches around the world. What is more ironic still is that virtually every citizen of the country has had a direct personal experience of the process by which our money comes into being. Indeed, many of us participate in one or more of its various forms almost daily, and yet remain completely unconscious of what we are actually doing. The process I am talking about is the deceptively simple act of borrowing money from a bank.

For purposes of illustration, I will choose a straightforward example. When a person goes to a bank to apply for a loan, he or she fills out an application, submits it to the banker, and, if all goes well, the "loan" is approved. This banker will then place in front of the applicant a contract, the signing of which obligates the borrower to "pay back" the money "lent," plus an additional charge that is designated as "interest." After the paper is signed, the banker hands over the money, and the borrower goes out and spends it for whatever purpose he had in mind when he asked for the loan. Over time the borrower will, by the terms of the contract, be obliged to "pay back" the "loan," plus the "interest." Supposedly, when the terms of the loan are satisfied, the contract is stamped "paid," and life goes on (or so it would seem; more on this later).

To all appearances, this transaction is very up-front, honest and understandable, but there are several questions about it that need to be asked. The first is –"Where did the banker get the money to loan?" My experience has shown that by far the majority of people assume that he had the money on-deposit in his vaults or accounts, and is now handing some of it over to the borrower for a period of time, until he or she "pays it back." This is a fundamental misunderstanding of this process (which, as will be shown, has great consequences).

The truth is that the banker did not go back into his vault to get the money. Rather he created it with the "stroke of a pen" when he wrote the check. This strikes many people that I talk to as a startling assertion. Not a few will declare that this simply cannot be true, but, as stated by Robert Hemphill, former credit manager of the Federal Reserve Bank of Atlanta, "If all bank loans were paid, no one would have a bank deposit, and there would not be a dollar of currency or coin in circulation. . . We are completely dependent on the commercial banks. Someone has to borrow every dollar we have in circulation, cash or credit . . ."

In modern banking practice, there may or may not be a physical writing of a check (the funds could have been credited electronically to an account, or there may even have been cash passed across the desk), but the actual mode of transference is a technical detail that concerns mainly the convenience of the parties to the transaction. The crux of the matter is that before the banker "signed the check" (or credited the borrowers account with new funds), the monetary credits (the "dollars" of whatever form) the banker is "lending" (in reality issuing) did not exist.

The borrower accepts the check, and then, after cashing or depositing it, spends the proceeds for whatever purpose he took out the loan to accomplish. This newly-created money now enters into circulation and becomes blended into the public money supply which we all use to conduct our business.

The mistaken notion that we actually borrow money from banks, in the common sense use of the term "borrow" (i.e. that the banker lends us something of substance that he has in his possession, and will have to do without it until he is "paid back"), constitutes a fundamental misunderstanding of what is actually happening in this process. At the point of the "loan" transaction the banker is actually creating and issuing money. What is more, virtually all the monetary woes of the modern world arise from the nature of this "private-bank-loan" transaction by which our money comes into being.

In the next edition of this column we will begin to examine why this is so.

Richard Kotlarz

Column #2 A Disturbing Image From the Past

(Week 1 - Tuesday July 29)

On the front page of the Tuesday, July 15 edition of the New York Times, was a photograph of a long line of people anxiously waiting to get into a bank the day before. I experienced this as a disturbing image, the like of which I had seen only in history books. It was, in a manner of speaking, an old-fashioned "run on the bank." To my knowledge, not since the Depression has such a picture been emblazoned across the front page of an American newspaper.

The particular institution being besieged was IndyMac bank in Pasadena, California, but the accompanying article offered the view that the banking sector itself was experiencing a growing crisis of confidence in the eyes of the public and the financial world alike, and that this initial rush on one of their members was feared to be the start of the unraveling of the banking system itself.

Of course, this is barely the tip of the catastrophic-financial-news iceberg. One could go on to find all the "latest" on the sub-prime housing crisis, the Bear-Stearns collapse, the galloping federal deficit, the personal debt crisis, the balance of payment deficit, the loss of jobs to poverty-wage foreign districts, the lack of money to repair crumbling infrastructure, the tens of millions of people without health insurance, the shrinking middle class, plus failing companies, public budget crises and private bankruptcies virtually everywhere. Such distressing stories are invariably accompanied by the calming voices of experts, officials and politicians assuring us that there is no reason for alarm, and offering their own good advice on how all this might be remedied. Notwithstanding, over the decades the problems seem only to be mounting.

When it comes to matters of money, it might be fairly asked, is there any good news anymore? Moreover, in the realm of finance, is "the news" even news, or has it become essentially a dreary rehashing of the same old statistics, economic jargon, and outmoded theories?

As I read and listen through all the supposedly insightful analysis on the economy in the media, I never fail to experience the sinking feeling that I have heard all of this before. Despite the masses of words offered daily, I detect hardly a new idea. The whole public "debate" about money and economics seems to drone on endlessly, with no solutions in sight.

Are there solutions? Seeking the answer to this question is critical, and it suggests other questions as well.

Is the seemingly insoluble economic dysfunction of our time something that has descended haplessly upon us, or does it have causes that can be identified, understood and remedied? Clearly, we are a society that is preoccupied with money, lives immersed in its flow, and prides itself on its financial sophistication. Moreover, we have developed complex skills and great institutions with which to manipulate the medium. Still, it might be asked, do we, individually and collectively, yet lack critically needed wisdom and understanding about money's essential nature?

In my own mind, I liken our society's current experience with respect to money to a school of fish that is just now becoming aware of the water it has been swimming in. We have attained an impressive facility in navigating its immersion in an outer mechanical sense, but the headlines suggest that a deeper consciousness of the medium eludes us, and that the price of that failing has become unsustainable. Money, it might be argued, has taken on a life of its own, and has effectively gotten out of human control. So, how can we begin to see money clearly? I will pick up on that thread in the next column.

Richard Kotlarz