Tuesday, August 11, 2009

How Is Monetary Policy Run In The United States?

Why do we need a central bank? For what purpose, or, more to the point, for whose benefit do we have a central bank? These are the kind of questions people in the United States should be asking themselves. What does your money look like? Have you ever examined it? What does your paper money say? Does the words "Federal Reserve Note" ring a bell? What does that mean, Federal Reserve Note? What is behind the "Note"? What is a Federal Reserve Note backed by? Does it need to be backed by anything? If a Federal Reserve Note is backed by nothing, what form of nothing are we talking about? These and a trillion more questions need to be answered before we can explain what a central bank means to us. Who determines how many Federal Reserve Notes are printed? Is it a matter of ink and paper, and when the ink or paper runs out, the Bureau of engraving stops printing money?

Money in the 21st century is credit. Paper money is a small piece of the pie. Without a central bank, there would be bank panics like we had in the 19th and early 20th centuries. Aren't we glad that we have a central bank so we don't have to experience bank panics in the 21st century?

Monetary policy was developed to insure that commercial banks are run properly, but what is the definition of "properly" when used in the same sentence with the words "commercial bank"? Remember in the film "Cool Hand Luke" when the warden of the prison came out on the porch and said to the prisoners, "what we have hereee, is failure to communicate!." Well, the Federal Reserve Bank, the body that runs monetary policy had a failure to communicate with the commercial banks they are suppose to supervise. Unfortunately, the chairman, Alan Greenspan, was no Georgia prison camp warden. Perhaps, he should have been.

Monetary policy is, in my opinion, to be run for the benefit of all the people, not just those trying to make lots of money using leverage. Leverage is another word for borrowing. For the good of a very, very few, the whole economy of the United States was put at risk. There is no other way to explain the meltdown of the mortgage-backed bond market, the financial crisis that followed and the resulting economic crisis that has affected the whole nation. Bottom line, the men and women that were responsible for running monetary policy along with the ineffective personnel of the Securities & Exchange Commission sealed the fate of our country economically speaking.

While the thought of an economy of our size existing without a central bank may be too much to imagine, the thought of a poorly run central bank or a central bank run for the benefit of a very, very exclusive few, is not much better. What happens to your money should be of as much interest to you as making it. Inflating the currency for the benefit of the few is not an answer. The challenge of health care costs in the future is directly tied to the way monetary policy is run in our country.

Stay tuned.


Butch said...

This is so true, most people don't really know about the banking system and how it is ran or who runs it. I'll bet most people don't know that money markets aren't FDIC insured or to go a little more to the common use of banking, that if you put money in, the bank doesn't have to give it back. Now that's a scary thought, what with all the snakes that have shown up in the past 10 months or so.

moneythoughts said...

Butch, it is not my intent to scare people about their money or their financial future. There are enough people playing the fear card for political gain, and I don't care to be one of them. But, knowing something about how we operate our banking system and educating more people to learn something about our banking system can only mean a better more informed population and electorate. Money market funds and bank deposits are two very different things. The system insures bank deposits, known as demand deposits, but under certain circumstances a bank can hold the money for 30 days(?). There is no reason to make people fearful of depositing their money in a bank. We all need a modern bank to facilitate the movement of funds, pay bills, etc. Most of what banks do in the way of everyday transactions is fine. The problems occur when banks make bad bets because, in the short term, the benefits that motivate senior management (salary, bonus and stock options) are misplaced.