Wednesday, March 20, 2013

Creating Financial Chaos: For the Want of a Lousy Six Billion Euros

For the want of a lousy Six billion Euros to fund the Cypriot Bank bailout, the Troika, which is to say the EU Council, The European Central Bank and the International Monetary Fund, have created a potentially catastrophic crisis of confidence in the global banking system.

Instead of laying out the trivial sum of another ten Euros per citizen of the Eurozone, the Troika have decreed that, in flagrant denial of a government deposit guarantee, Cypriot bank depositors must lose at least 6% percent and up to 15% of their money to stabilize the institutions in whose hands they have placed their savings.

Now lets think about this. The Cypriot banks are supposed to be regulated by the governments of Cyprus and the EU. So if those banks are run by crooks or incompetent fools, whose fault is it? Obviously, it is the fault of those governments that have failed in their regulatory duty  and, as a failure of government, the cost of that fault should be borne collectively, i.e., by government, not haphazardly, by individuals according as whether or not they have saved their money.

Citizens of a modern state have no option but to deposit their savings in a bank. It may not be illegal to save cash under the mattress, but to be in possession of large quantities of cash is treated by government as a prime indicator of possible criminal or terrorist intent, for which reason banks are required to report to government all large cash transactions, either deposits or withdrawals.

And it is government that has declared gold, silver and copper, the age old measures of value, to be no longer legal tender.

The provision of a trustworthy monetary system is thus a fundamental responsibility of government, and dishonesty or incompetence in the management of money is a deadly destroyer of government legitimacy. If you doubt that, think of Zimbabwe or Weimar Germany.

What then must Western governments do to restore credibility in their management of money?

 A solution is not technically difficult, but it is all but impossible politically because it means sharply curbing the money power, which funds all  so-called democratic, elections in the West.

But here's the solution.

Every central bank will offer a retail savings bank service. This would be strictly online. Your account with the Bank of England, the Fed, the EU Central Bank or whatever, would be where your pay check would be deposited. There your money would be absolutely secure. The bank can never run out of funds to pay you back because it has the legal right to print money in any amount.

To access your central bank account, you'd have a cash or credit card, or where checks are still used, a check book.

Central bank accounts might pay nominal interest, just as the US Fed pays interest on surplus reserves deposited with it by the commercial banks.

Where Would You Go For a Loan?

The business of lending would remain with the commercial banks. But instead of lending money deposited by savers, they would lend funds borrowed from the Central Bank.

This would bring an end of fractional reserve banking, whereby banks lend so many times the cash in reserve, an entirely mythical system under which banks, in fact, lend as much as they like, conjuring the money out of thin air, the amount limited only by the banks' judgement of what loans it is safe to make, i.e., which borrowers can be relied upon to repay the debt.

And they don't have to worry about the ability of the borrower to repay where governments have been so irresponsible as to guarantee stupendous quantities of private debt, as for example, the trillions in mortgage debt guaranteed by the GSEs in the US, and the hundreds of billions guaranteed by Canada's CMHC.

Real Control of the Money Supply at Last

The amount loaned by the central banks to the commercial banks would be based not only on a judgement of how much it was safe to lend any particular bank, but also a judgement of the needs of the economy, i.e., the optimum quantity of money.

To determine the creditworthyness of the commercial banks, the central bank would have the power to audit banks, to determine the responsibility of their lending practises.

The overall amount of central bank lending to the commercial banks would be regulated through control of the lending rate. The rate would be such as to permit lending for productive investment, while preventing lending for mainly speculative investments that lead to the creation of a bubble or Ponzi economy.

Thus the central bank would have absolute control of money supply. Moreover, it would have the means, presently lacking, to "push on a piece of string." If the economy were in recession, interest rates would be lowered to encourage borrowing and thus stimulate spending and aggregate demand. If zero interest rates on loans to the commercial banks failed to stimulate sufficient demand, the central bank could apply a negative interest rate. For every dollar borrowed, the commercial banks would receive so many cents from the central bank, thus allowing further scope for downward adjustment in retail loan rates.

The same negative interest rate would, necessarily, be applied to commercial bank reserves to prevent hoarding of money bearing negative interest. Negative interest rates would, however, never apply to individual cash deposits, since that would destroy public confidence in the monetary system.

Elimination of Theft, Fraud, Bribery and Illicit Drugs

How would central banks prevent commercial banks from lending money they don't have, the practice in which they engage today?

Easily. All money would be created by the central bank, which would give each unit of currency a digital identifier, making each unit traceable at every instant, since all money at all times would consist solely in a number or a set of numbers in a data bank stored on a highly redundant and nuclear blast-proof computer system.

For example, a commercial bank borrows cash from the central bank to finance its loan program, each dollar borrowed having its own identity number. When you borrow from the commercial bank to buy a car the money can be tracked as it moves from the central bank to the commercial bank's central bank account, through your central bank account, to the central bank account of the car dealer.

In fact, every dollar in any account can be traced from the moment of its creation. Thus if politician X receives funds via lobbyist Y who works for company Z, the money can be traced and the police can make any relevant inquiries. If millions are going to the account of a Mexican citizen without no apparent legitimate means of support, via a bunch of ne'er-do-wells in Los Angeles or Toronto, the narcotics police can easily spot the trail. And if a hacker were to remove every cent from your bank account, the missing funds could instantly be located and returned to you.

This, of course, is no fun at all, since it would rob the financial "services" sector of the freedom to print their own money and generally mug the populace while buying the silence of the politicians.

Still, the perfectibility of society is something worth considering once in a while, if only as an meaningless diversion.

In the event, the final settlement of the Cyprus banking crisis:
spares bank accounts below the insured limit of 100,000 euros. It imposes losses that two EU officials said would be no more than 40 percent on uninsured depositors at Bank of Cyprus Plc, the largest bank, which will take over the viable assets of Cyprus Popular Bank Pcl (CPB), the second biggest.

Cyprus Popular Bank, 84 percent owned by the government, will be wound down. Those who will be largely wiped out include uninsured depositors and bondholders, including senior creditors. Senior bondholders will also contribute to the recapitalization of Bank of Cyprus.(Source)
Some large depositors escaped the crash thanks to a tip-off by the President of Cyprus Nikos Anastasiades:
Cypriot president Nikos Anastasiades 'warned' close friends of the financial crisis about to engulf his country so they could move their money abroad, it was claimed on Friday.

The respected Cypriot newspaper Filelftheros made the allegation which was picked up eagerly by German media.

Italian media said the 4.5 billion euros left the island in the week before the crisis. (Source)
 See also:
Canspeccy: The Numero: Beyond Gold and Fractional Reserve Banking

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