The Fed on the Defensive

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I do not recall this in my lifetime. A majority in the House of Representatives has co-signed H.R. 1207, a bill introduced by Ron Paul to have the Federal Reserve System audited by an independent government agency, the Comptroller General’s office.

The bill has been bottled up in committee by Barney Frank, who has insisted that he is doing this in order to better coordinate consideration of the best way to gain greater transparency from the Federal Reserve. He has not said that he favors an independent audit of the FED.

It would be easy for Congressman Frank to hold hearings on the bill. This would allow Dr. Paul to bring in expert witnesses on the FED to make the case for an independent audit. It would get a lot of YouTube play. It would be the first time since the replacement of eccentric Congressman Wright Patman in 1975 as the chairman of the House Banking Committee that the FED has been exposed to anything like serious criticism in Congress. (Patman, an inflationist and a greenbacker, hated the FED. He was chairman of the House Banking Committee, 1965—75.) Congressman Frank has yet to announce hearings.

There was a posting on the DailyPaul site that Frank will hold hearings soon. Someone heard it on the radio. I will believe it when I see the YouTube videos.

The FED in June hired a public relations expert, Linda Robinson, to deal with Congress. She was formerly a lobbyist for Enron. I have little doubt that it was H.R. 1207 that forced the FED into this move.

Now Ron Paul’s book, End the Fed, is about to be published. It is expected to become a best-seller. Think about this. There have been books attacking the Federal Reserve System for over ninety years, but they have been written by obscure people who no one in the general public has heard of. They have not sold well. They have not been written by someone who persuaded over half of the House of Representatives to support a bill to audit the FED. They have not been written by someone who once raised over $30 million in a run for President.

This is unprecedented. For the first time in the history of the Federal Reserve System, there are literally millions of people who have heard of the FED and who would like to see it shut down.

There have been academic and investment critics of this or that policy of the FED, most notably Milton Friedman, who criticized the FED for not inflating enough, 1930—33. But there has never been a serious audience ready to listen to arguments on why a system of 12 private banks should oversee monetary policy, and why one of them, the New York Federal Reserve Bank, should execute this policy without having to answer to anyone.


The Bloomberg news service has sued the Board of Governors of the FED under the Freedom of Information Act. The lawsuit says that it is illegal for the Board of Governors to refuse to release information on which banks have received financial aid from the FED.

The Board of Governors countered with this argument. The New York FED is a privately owned entity. It executes monetary policy. It is not subject to the Freedom of Information Act. The FED also argued that the banking system would be threatened by the release of this information.

This case went to court. The judge ruled on August 24 that the Board of Governors of the FED must make this information public no later than August 31.

On August 26, the FED asked the judge not to enforce her ruling. Why not? Because it would be bad for the banking system. She had heard that argument before.

Well, what else? The Board of Governors’ lawyer insisted that the Board has no knowledge of what the New York FED — its legal agent — really does. The lawyer said, “We don’t control the system of record-keeping in New York.” She insisted that the Board of Governors just cannot find out what the New York FED did with the money in time to meet the deadline.

Apparently, the Board of Governors, a government agency, has taken seriously Jesus’ words regarding charity (alms):

But when thou doest alms, let not thy left hand know what thy right hand doeth: That thine alms may be in secret: and thy Father which seeth in secret himself shall reward thee openly (Matthew 6:3—4).

The two FEDS, the government one and the private one, were surely involved in the charity business, to the tune of a trillion dollars or so. This was a system of handouts on an unprecedented scale.

The Father in Washington has surely rewarded the FED in the past. The FED expects more of the same in the future. But now this pesky lawsuit forces an opening of the books.

Is the lawyer’s argument credible? Perhaps the judge will not regard it as credible. So, the FED had another argument. The FED wants her to wait until the case can be heard on appeal. But there was a hitch. The FED did not say when it intends to appeal.

Here is the FED, with a court ruling against it, and with the clock ticking, admitting that it has no date set to file an appeal. Its lawyers apparently had no fall-back position. Is this credible? Of course not.

Will it work? We shall see. If it does work, and if H. R. 1207 remains bottled up in committee, the growing army of people who have finally found out about the FED will have two more pieces of evidence that the U.S. government does not run the FED.

If the bill passes the House and the Senate, Obama will veto it. The FED is not going to be audited by the government. That is not how the world works. The FED is only officially under government authority. Except in wartime, it has never been under government authority. It was set up to provide the illusion of government control. That illusion has worked since 1913.

The FED does face a major problem. If it escapes from both the Congress and the courts, this will sell lots more copies of “End the Fed.” On the other hand, if the court system finally forces the FED to reveal who got what and on what terms, then banks in the future will hesitate to go to the FED, hat in hand, because the public learn who was begging for a bailout. This is not the sort of information that big bank bankers want the financial press to discover, let alone the Internet.

The handouts went to the big banks. Most banks were ignored. They were allowed to sink or swim. This has created a problem: bank bankruptcies every weekend for as far as the eye can see.


The Federal Deposit Insurance Corporation, flush with a $30 billion loan from Congress, has announced that its list of problem banks climbed in one month from 305 to 416. The list is secret, of course, for the same reason that the New York FED’s list is secret. The FDIC does not want to cause a run on any of the 416 banks.

A bank run these days takes the form of wire transfers and checks written to other banks to open an account. The money supply remains constant. Some banks lose; others win. The bad banks go bust.

The FDIC then has to buy up all of their bad assets. Solvent banks then buy the good assets. The big winners are the solvent banks that buy their rivals’ assets at fire-sale prices. The big losers are taxpayers and investors who believe that all of the Treasury debt that Congress must sell to cover its loan to the FDIC will be repaid in real money some day.

On August 27, the FDIC announced that its member institutions lost $3.7 billion in the second quarter of 2009. In a press release that was reminiscent of “Spin City,” the head of the FDIC, Sheila Bair, announced:

“While challenges remain, evidence is building that the U.S. economy is starting to grow again,” said FDIC Chairman Sheila Bair. “Banking industry performance is — as always — a lagging indicator. The banking industry, too, can look forward to better times ahead. But, for now, the difficult and necessary process of recognizing loan losses and cleaning up balance sheets continues to be reflected in the industry’s bottom line.”

Translation: “The economy is better off than the banks are, and the economy remains in the pits. Why? Because banks are not lending. Someday, things will turn around for the banking system as a whole, but don’t get your hopes up. Cleaning up bank balance sheets these days is comparable to cleaning up the Augean stables, for all you classics buffs out there.”

Chairman Bair went on to say, “The FDIC was created specifically for times such as these. No matter how challenging the environment, the FDIC has ample resources to continue protecting depositors as we have for the last 75 years. No insured depositor has ever lost a penny of insured deposits…and no one ever will.”

Translation: “Congress may have to fork over another couple of hundred bullion — maybe $500 billion, if Senator Dodd’s bill is signed into law — but no one will ever lose a penny in an FDIC-insured bank. But taxpayers will pay a pretty penny to whoever buys all those T-bills that Congress will have to issue to keep the FDIC solvent.”

The press release reported the following.

Total assets of insured institutions declined by $238 billion. The number of institutions on the FDIC’s “Problem List” rose. At the end of June, there were 416 insured institutions on the “Problem List,” up from 305 on March 31. Total reserves of the Deposit Insurance Fund (DIF) stood at $42 billion. [No mention of the $30 billion loan from Congress to get reserves back up.]

How bad is this number: 416 problem banks? Not as bad as 1882 problem banks. That is the estimate of Institutional Risk Analytics, a private research firm. The organization gave a grade of F to 1882 banks, as of June 30. This figure was up by 16.5% since late March.

What about the number of A-rated banks? The number was down by 21% since late March.

This list does not include the 19 big banks that went through the stress tests, which all of them passed. The stress tests assumed that big banks would have enough capital to withstand a 9% loss rate over the next two years. The problem is, according to the company’s managing director, that we are already at 9% loss rates, and we are not yet at the bottom of the cycle. If the economy does not recover by the 4th quarter, banking statistics will head down in 2010. (

The Federal Reserve System intervened to save the financial system in 2008. But has the system as a whole recovered? No. Has unemployment stopped rising? No. Has the economy recovered? No.


Always in the past, the Federal Reserve has remained free from serious criticism. The media are obedient lap dogs. So are the academic economists. The textbooks never point out that the FED is the enforcing arm of a huge cartel. The professors refrain from applying to the FED their analyses in their chapters on cartels.

Today, for the first time, there is a growing audience of intelligent people who are being exposed to the truth about the FED. This has taken place outside Establishment channels, which includes the largest talk radio shows.

The FED has had a 90-year free ride. That ride is over. The FED will never again get off scot-free. The Web is sufficient to continue to inform people regarding the economic disasters that the FED has caused by its anti-recession, big-bank bailout policies.

Bernanke is pursuing the same low-interest rate policy that Greenspan pursued from mid-2000 to mid-2004. A few mainstream critics of Greenspan now say that his policy failed. But they refuse to say that Bernanke’s policy is the same, and that the resulting crises will be worse.

The critics do not see the operations of the FED in terms of a consistent theory of monetary cause and effect. They view monetary policy as somehow based on the personality of the Chairman. Before, Greenspan was “the Maestro.” Bernanke is “the Professor.” The policies are the same: pump and dump. The FED pumps up the money supply, and the Treasury dumps T-bills and T-bonds on the FED.

The FED has promised to unwind its doubled monetary base (balance sheet) when the economy revives. In recent months, it has sold off some debt. The monetary base is down from its peak. The Treasury has been able to sell its debt to investors who still dear the economy. This cannot go on for more than a year unless the economy stays in recession. The size of the deficits will be too great.

The FED really is trapped unless the economy revives, commercial bank credit to private industry revives, and price inflation remains low. But a revival of commercial bank lending will turn the FED’s monetary base into spendable money. The M1 money supply will double. The M1 money multiplier will go positive. At that point, the FED will have to unwind, meaning sell off assets. To whom? At what interest rate? It will be in competition with both the Treasury and Fannie/Freddie.


The FED has never had to play defense. It has had a free ride. The free ride is over.

The general public has still not heard of the FED. The FED still has the advantage of invisibility. But it is losing that invisibility. This is not going to change.

The FED is a legitimate target for people who think the government botches the economy. It is the classic example of the much-praised government-business alliance. It is the consummate model of that alliance. When it fails to achieve its twin official goals of low unemployment and low price inflation, millions of its economic victims will figure out who the culprit is.

End the Fed.

August 29, 2009

Gary North [send him mail] is the author of Mises on Money. Visit He is also the author of a free 20-volume series, An Economic Commentary on the Bible.

Copyright © 2009 Gary North