Tuesday, August 01, 2006

Banking, Inflation and the Federal Reserve

It is not unusual to hear the news talking about inflation and the federal reserve's policies from time to time. People are always making meaningless speculations and misinformed predictions about the economy. However, the reality of what inflation is and what the federal reserve does is most often completely obscured. Alan Greenspan or Ben Bernake make some random econometric prediction or gives some political opinion and then the establishment hails them as an all-knowing sages.

A false picture is presented in which inflation is given a false definition, and usually blamed on the market itself. Inflation has been blamed on everything from greedy buisinessmen to consumers. And of course, the politically correct and cliche line that everyone is supposed to accept is that the federal reserve fights inflation and helps our economy "boom". Yet this is purely not the case, as the federal reserve itself is the main culprit in creating inflation.

To a certain extent, it's a matter of common sense. Who controls the money supply? The federal reserve. Who controls the interest rate? The federal reserve. What is monetary inflation? An increase in the money supply. An increase in the money supply lowers the value of the dollar, and the lower value of the dollar raises consumer prices - hence, inflation. The law of supply and demand applies to money itself as much as it does to any commodity.

You are inflating the money supply, which in turn inflates prices, which in turn erodes the standard of living. This is the true definition of inflation, and it is what affects the economy so much, on such a macro scale. Of course, central banking is the most blatant and macro violation of the free market there can possibly be - you are giving a particular group a monopoly on the money itself, through the instrument of government priviledge.

Furthermore, they have an edict to endlessly expand credit as they please. Of course, that is none other then counterfeiting, as paper money is arbitrarily being created out of thin air with nothing to back it up. So, what is the federal reserve? A group of private bankers that have been given a monopoly on money itself by the government, to do as they please with the money supply, rate of interest and cost of borrowing, and even direct price controls. In short, "Legal counterfeitting".

It's all about power. Without the ability to arbitrarily increase credit, it would be impossible for politicians to get away with their monsterous debt and deficit spending. It would also be practically impossible to fund a modern war without it, otherwise the taxes required would be incredibly crippling. In fact, if one looks back into history, a war is almost always coupled with an abandonment of the gold standard and credit expansion to fund it. History also affords us endless examples of the crumbling of nations further down the line once they expand credit and empire so much.

States and power-hungry individuals have always been hostile to an official standard of money, such as the gold standard, because it sets limits on the money supply. But such people want power. Thus, the first thing most tyrants do is abolish such standards so that they can infinitely increase the money supply to pay for their bread and circuses, war and empire. Take a look at Rome, Egypt, Greece, etc. It's the same basic theme of state empire, credit expansion, decadence and then ruin throughout all of it. A gold standard simply denies governments the ability to expand beyond a certain point, therefore it is always abolished when the state wants to expand, especially through military conquest.

At the foundation of America, many of our founding fathers were weary of government, and its control over economies. Not only were they weary of government, but they were also weary of central banking. Thomas Jefferson was the poster-boy for opposition to central banking, along with Andrew Jackson. As a result of these wise sentiments, a gold and silver standard was written into our constitution. Of course, it didn't take long for some people to start pushing for a central bank.

None other then Alexander Hamilton was pushing for a central bank that could engage in fractional reserve banking, which essentially means that the banks could reduce the gold backing by a particular percentage so that the money supply can be raised accordingly. This was a vital part of the disagreements between Jefferson and Hamilton. Jefferson wanted a limited, decentralized government with sound money. Hamilton wanted an elite, centralized state with fiat money. I side with Jefferson.

Hamilton suceeded in creating a central bank for a while, but Andrew Jackson's presidency brought that to an end, as he abolished it and declared it a symbiotic hydra. Throughout the 1800's, the country switched on and off between a gold standard and fractional reserve banking. During war, including the civil war, the country always went into a state of credit expansion. But during times of peace, there was almost always a general gold standard to function as a limit on credit expansion. The best periods of true economic prosperity and growth were ones in which a gold standard was in place.

Then came the turn of the century and WWI. In 1913, the Federal Reserve Act was passed to pay for WWI. This was the creation of the central bank that we currently have. It was also one of the hugest mistakes in American history, and you can thank Woodrow Wilson in part for that. There was a gold standard at first, but it was slowly eroded. The "boom" created by the expansion of WWI and the roaring 20's was directly related to the early monetary policies. Unfortunately, it also was directly related to the great depression, which was the inevitable result of the central bank's preceding boom. It should be no wonder that FDR confiscated everyone's gold in the 30's, a clear sign of the relationship between gold and monetary policy.

Thoughout the WWII era, again, the money supply was increased and the gold standard slowly eroded. Of course, further down the line this lead to the recessions of the 60's and 70's. Ever since after WWII, the money supply has pretty much been on non-stop auto-pilot. Of course, consumer prices have perpetually increased exponentially since then. Thus, the more printing continues, the lower the standard of living becomes. The "booms" created by the expansion only benefits mostly rich, special interests. And they always turn into "busts" because they cannot be sustained indefinitely.

The final blow came in 1971, when Nixon officially abolished the gold standard once and for all. Before then, there was a quasi-standard in which a certain percentage was backed by gold. This is not the case anymore since Nixon's terrible move. The monetary system was converted into pure fiat, which means that the money supply can be expanded with no limits on it at all, and nothing to back it up.

Why is a gold standard so important? In part, because it yields sound money with a sound purchasing power that is much higher then our cheap, easy fiat money can ever produce. A gold standard sets the purchasing power of the dollar in terms of weight and based on a finite commodity that must be dug out of the ground. A "dollar" was originally worth 1/20ths of an ounce of gold. Today, the fiat dollar is hovering around 1/700ths of an ounce of gold. This is a direct measure of inflation over the past century or so. '

The difference between the two are quite large. For example, let us suppose that a gallon of gas costs us 3 modern fiat dollars. In gold dollars, under an 100% reserve gold standard (which means that every single dollar in circulation is backed up by 1/20ths of an ounce of gold), it would cost approximately 10 gold cents or less. It's a question of the purchasing power of the money and how it affects prices, wages and the overall economy. It would be completely advantageous for everyone's standard of living.

Fiat money is nothing but a perpetual erosion of purchasing power from the people's money. It constitutes a form of hidden taxation that affects the middle class and poor the worst, which also makes it a form of wealth redistribution. Freshly printed fiat money immediately goes to government policies and programs, wars, etc. Much of those policies go to the military industrial complex, certain corporations, etc. By the time the dollar gets down to the average person, that is when the inflation tax settles in. As a result, the cost of living perpetually rises for the middle class and below, as rich beuracrats and special interests leech upon the well-being on the masses. This is the heart of the "middle class squeeze".

The entire modern government spending spree depends on this destructive monetary policy. Essentially, any new program, policy or department that politicians pass increases the inflation burden. There is a way out though. Of course, making real reductions to government spending is a start. But the real goal should be to abolish the federal reserve and a reinstitute sound commodity money. Otherwise, our nation will eventually crumble economically, just like Rome. Empire never lasts, it is doomed to fail.

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