Douglas Goldstein: Roger Lowenstein is a bestselling financial writer and author.
He has a new book called America’s Bank: The Epic Struggle to Create the Federal Reserve.
Why was it an epic struggle?
Roger Lowenstein: United States sort of has a founding political conflict that goes back
to the time of George Washington, Alexander Hamilton and Thomas Jefferson.
Americans have always been very afraid of big government, central government that goes
back to the very beginning as I said when we rebelled against the English crown and
it continues up to this day.
If you follow American politics now you could see it in the tea party and resistance to
things that in other countries take for granted such as national healthcare and it’s a particular
manifestation in finance.
People in America are very afraid of big financial institutions.
Thomas Jefferson was the third president of course and a founder, Andrew Jackson was another
early president in the early 1800s and all throughout the 19th century when every nation,
Europe, face the every developed country realized that they needed a lender of last result to
organize and stabilize their financial system, America resisted.
This book is about what was indeed an epic struggle to bring America fully into the 20th
century.
Douglas Goldstein: You are raising something which doesn’t quite sit with, to me what
seems like the facts on the ground which is I personally am a little bit afraid of huge
government and huge financial institutions but you know the proof is in the putting,
look how big the institutions and the government’s heart today so it would seem that the goals
of the founding fathers seemed not to have really come to pass.
Roger Lowenstein: The Fed is obviously much bigger than the people who created the Federal
Reserve a hundred years ago, I could have imagined it’s more involved, intricately
evolves the American economy but the very much had in mind an organization, a bank that
would come to the rescue of the American economy that would be, as the phrase has it “A lender
of last resort in times of crisis.”
The impetus for founding the federal reserve which occurred in 1913 was the 1907 panic
when hundreds of banks had to shut their doors and there was no government lender of last
resort so I think if the founders came back although the shape of the fed would be bigger
than I had anticipated, the various of its tools and mechanisms would surprise them the
fact that during the recent financial crisis in 2008 we had a federal reserve, making loans,
resuscitating the economy, I think all that would jive very much with what their purpose
was.
Douglas Goldstein: One of the ideas of the Fed I think maybe in their charter even if
it is supposed to create a stable economy, what is a stable economy really mean and is
our economy today really stable?
Roger Lowenstein: The exact phrase is a stable currency and that’s a big difference.
So what they had in my mind by stable currency was the currency that didn’t suffer from
inflation.
Now there were various people populous and so on.
William Jennings Bryan was a very famous American statesman ran for office a few times an ERU
that stable currency should also mean stable in the other way meaning be protected against
deflation, the money shouldn’t longer which might sound like a curious concern but for
30 years before the founding the of the Fed, prices fell.
When we say prices fell that’s another way of saying the value of the dollar rose year
after year and this is very difficult for people like farmers who say would have debts
and fixed rates and then they’d sell their products each year, wheat and corn and so
on for less and less money.
So the meaning of stable was debated in congress in the 1970s added an additional function
to the Fed which was to promote economic growth and employment.
So now really there are two mandates for the Fed.
One is to make sure that the value of the dollar is roughly stable and Fed shares such
as Ben Bernanke have interpreted that as just a little bit of inflation each year and the
other is to make sure that the economy doesn’t completely go off the
rails.
Douglas Goldstein: I want to sort of dive in on this issue of a stable currency.
It would seem to me and I’m not a world famous economist but there are certainly those
who claim that with interest rates at historic lows and having continued for years and the
federal debt getting bigger and bigger, the only way eventually to pay it off is simply
going to be to print dollars until they have no value anymore and so it seems that the
Fed which is the body responsible for interest rates keeping them so low is actually doing
the opposite of what it’s supposed to do, it’s causing the ultimate demise of the
dollar.
Am I off base here?
Roger Lowenstein: You are very much in concert with what a lot of people have been predicting.
Obviously, people on the other side are a bit saying no, so far those predictions have
not come to pass.
Say two things relative to that.
One is that people say loosely the Fed is printing money you know as if sort of Janet
Yellen you know next to our kitchen she has a big printing press.
What the Fed actually does is it creates reserves in banks and that’s one step but the next
step is just as important and that step is the banks have to lend those reserves out
to people or business.
If that doesn’t happen, money doesn’t enter the system.
I sort of grew up in the 1970s, witnessed the terrible inflation that we did have and
I would have expected it was very easy to raise the inflation rate.
Ben Bernanke said all we have to do is we could just go up in the sky and drop money
from the helicopter or over the capitol building or something.
Actually the Fed has had been trying now for five or six years to get the inflation rate
a little higher to try and stimulate the economy creating all these bank reserves but it turns
out people aren’t that optimistic about the economy, they’re not doing a lot of
borrowing and investing and it’s been a lot tougher than you or I might have thought.
Secondly if you go back because I sort of sense a monitor is lurking in you in that
question so that the early 1970s when that well known liberal Richard Nixon cut the gold
tie and took the dollar off gold, people then predicted that you know that would be it to
the dollar on international, nobody would ever want dollars again.
Of course the opposite has happened over the decades and particularly in crisis periods
which we always seem to be in.
The dollar has become more and more valued.
The real anchor to the dollar isn’t in my opinion the metal or the assets behind it,
it’s the fact that only dollars allow you to buy goods and services in the American
economy.
The American economy remains the strongest in the world, the most transparent, the one
with the legal system, backed by legal system that people around the world trust, it’s
those sorts of things that preserves the value of the dollar, not a vault in Fort Knox or
something.
Douglas Goldstein: I will simply note that the debt in the time of Richard Nixon was
considerably less than it is now and it just seems that you know with the amount of taxes
that I pay, I don’t see how the government is ever going to pay it off.
It just seems very difficult and I feel that if it’s the Fed’s responsibility to do
that then maybe they’re not keeping to their original charter, that’s my concern.
Roger Lowenstein: It’s not the fed’s responsibility to pay off the debt, of course you know the
debt is held by the treasury.
The treasury’s debt or the government deficit now is a percentage of GDP is not at a line,
what was it 3% or something?
It was very high as you’d expect and as you’d want during the crisis unless you’ve
and I haven’t but the idea is that government should prime the press during a crisis and
the government did briefly.
But right now it’s back to 3% or so.
So for a growing economy, just as a family can carry debts, it’s in proportion to its
income, it’s not a lot.
And if you look at the countries around the world that decided “Hey we’re going to
fix our economic problems by” it hasn’t worked so well.
Douglas Goldstein: Let’s go back again and talk about history because that’s what your
book really is about.
At the time when the Fed first open in 1913, the U.S. economy was undergoing a radical
change from an agricultural economy to an industrial economy.
It feels today as though we are also moving in a radically new direction as information
technology is taking over, is the Fed setup to deal with this kind of change?
Roger Lowenstein: You are right that the early 1900s were time of industrial transformation
and this year is too.
I think the constant in both is that as long as we have a system of private capitalism
and we have credit, private credit, there are going to be times when that credit is
withdrawn, when lenders are nervous and the herd instinct being what it is, I know you
are a student of Daniel Kahneman, no one has repealed that aspect of human nature, the
herd behavior.
There are going to be times when creditors retreat on [mass] and in those periods in
particular the the necessity for having a lender of last resort as Walter Bagehot, a
Victorian era of British economist said an organization to lean against the wind when
everyone else is running with it, it’s the same whether we are talking about the digital
age or the industrial age.
Douglas Goldstein: So we’ve touched on the lender of last resort a couple of times in
this conversation.
One of the complaints that people have about this system and the banking system is that
the banks were insured by the FDIC are not really paying premiums that are reasonable
for the amount of insurance that they are getting.
Meaning if it was a free market then they would in fact have to pay a much higher premium
which would mean lower interest rates ultimately to the depositors but it would mean that it
would be a more fair system.
If we would have switched to a system where the government wasn’t just the lender of
last resort, they are to bail out the banks rather than the government would have an effective
system to make sure the banks don’t take an undue risk and then just know the government
will bail them out one day, wouldn’t that make the system stronger?
Roger Lowenstein: I take issue with the phrase of bail out.
In 2008 was in an extraordinary circumstance but what the Fed does is provide credit, only
credit dissolved organizations.
The purpose of the Fed isn’t to bail out banks and the FDIC, it has to set its interest
rates in a sense of market-based evaluation what the real risk is and that was obviously
too low and others misjudged the risk of more securities going into including the fed [despite]
the risks of mortgage securities going into the bubble and what became the buzz but if
you don’t have a deposit insurance, in our experience previously you are inviting this
mass runs the bank and tip over not only in Salvador organizations but of course it always
happened in this Salvador organizations because the herd behavior aspect that I spoke of,
so I would not be in favor at all of repealing deposit insurance.
Douglas Goldstein: My idea was that the insurance should be available from other countries as
well.
Imagine you walked into Bank of New York and there was a sign that said we are not insured
by the FDIC of the United States but by the term in FDIC for example.
So then it would be a free market where the banks get insurance and you and I would know
better to only go to banks that are insured and you say well I trust for example that
the German government could bale out my bank better than the U.S.
Roger Lowenstein: You say you and I would know better but in fact – the way I taught
you know, so I’m going to be a little bit and say in fact throughout history depositors
have not known that and the financial system is too delicate to trust.
This is what Alan Greenspan said when he was asked about derivatives that if private lenders
are making these contracts perforce they must be prudent, he said that was respective of
derivatives based or mortgage securities in the early 2000s.
Markets are usually smart.
They can do very dumb things sometimes.
Douglas Goldstein: Is it true that the Jews run the economy and starting the Fed?
Roger Lowenstein: Over time the Fed has been a magnet unfortunately for various conspiracy
theories and also at times, most unfortunately for fringe anti-Semitism and so on but the
fact is that the intellectual father of the Federal Reserve of United States was a German
Jew who emigrated from Homburg to New York in 1902, Paul Warburg.
He was a banker but really more interested in the philosophy behind banking rather than
the sort of gravity of everyday business of making loans and Warburg saw much sooner and
much more clearly than his atopic countrymen, the falls in the American system, as he put
it the banks in America suffered from an extreme ethos of individualism.
By that he meant that each bank kept its own reserve in its vault if you will and out of
fear that there would be such a panic, banks locked up a tremendous amount of the lending
power of the country rather than circulated in loans, Warburg very vivid panned and he
liken the banking system to a town that lacked a central reservoir in which each home maybe
had a pale of water in its backyard, a terribly inefficient way to organize a banking system
and he was remarkable both in his insight and for the passion with which he pushed his
idea and he became one of the first governors of the Fed Reserve after becoming a citizen
in 1914.
Douglas Goldstein: How can people follow you and follow you writing?
Roger Lowenstein: You can find the book and my other writings on my website, not very
complicated www.rogerlowenstein.com.
You can order America’s Bank there and of course on sites such as Amazon.