[Insolvent Wall Street banks have been quietly bailed out again.
Banks made risk-free by the government should be public utilities. ]
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ANOTHER BANK BAILOUT UNDER COVER OF A VIRUS  
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Ellen Brown
May 18, 2020
Web of Debt Blog
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_ Insolvent Wall Street banks have been quietly bailed out again.
Banks made risk-free by the government should be public utilities. _

“I’ll be the oversight,” President Donald Trump declared last
week as Congress debated the $2.2 trillion economic rescue package he
signed into law Friday. ,

 

When the Dodd Frank Act was passed in 2010, President Obama
triumphantly declared, “No more bailouts!” But what the Act
actually said was that the next time the banks failed, they would be
subject to “bail ins” – the funds of their creditors, including
their large depositors, would be tapped to cover their bad loans.

Then bail-ins were tried
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results were disastrous.

Many economists in the US and Europe argued that the next time the
banks failed, they should be nationalized – taken over by the
government as public utilities. But that opportunity was lost when, in
September 2019 and again in March 2020, Wall Street banks were quietly
bailed out from a liquidity crisis in the repo market that could
otherwise have bankrupted them. There was no bail-in of private funds,
no heated congressional debate, and no public vote. It was all done
unilaterally by unelected bureaucrats at the Federal Reserve.

“The justification of private profit,” said President Franklin
Roosevelt in a 1938 address
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“is private risk.” Banking has now been made virtually risk-free,
backed by the full faith and credit of the United States and its
people. The American people are therefore entitled to share in the
benefits and the profits. Banking needs to be made a public utility.

THE RISKY BUSINESS OF BORROWING SHORT TO LEND LONG

Individual banks can go bankrupt from too many bad loans, but the
crises that can trigger system-wide collapse are “liquidity
crises.” Banks “borrow short to lend long.” They borrow from
their depositors to make long-term loans or investments while
promising the depositors that they can come for their money “on
demand.” To pull off this sleight of hand, when the depositors and
the borrowers want the money at the same time, the banks have to
borrow from somewhere else. If they can’t find lenders on short
notice, or if the price of borrowing suddenly becomes prohibitive, the
result is a “liquidity crisis.”

Before 1933, when the government stepped in with FDIC deposit
insurance, bank panics and bank runs were common. When people
suspected a bank was in trouble, they would all rush to withdraw their
funds at once, exposing the fact that the banks did not have the money
they purported to have. During the Great Depression, more than
one-third
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private US banks were closed due to bank runs.

But President Franklin D. Roosevelt, who took office in 1933, was
skeptical about insuring bank deposits. He warned
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“We do not wish to make the United States Government liable for the
mistakes and errors of individual banks, and put a premium on unsound
banking in the future.” The government had a viable public
alternative, a US postal banking system established in 1911. Postal
banks became especially popular during the Depression, because they
were backed by the US government. But Roosevelt was pressured into
signing the 1933 Banking Act, creating the Federal Deposit Insurance
Corporation that insured private banks with public funds.

Congress, however, was unwilling to insure more than $5,000 per
depositor (about $100,000 today), a sum raised
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temporarily in 2008 and permanently in 2010 to $250,000. That meant
large institutional investors (pension funds, mutual funds, hedge
funds, sovereign wealth funds) had nowhere to park the millions of
dollars they held between investments. They wanted a place to put
their funds that was secure, provided them with some interest, and was
liquid like a traditional deposit account, allowing quick withdrawal.
They wanted the same “ironclad moneyback guarantee” provided by
FDIC deposit insurance, with the ability to get their money back on
demand.

It was largely in response to that need
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evolved. Repo trades, although technically “sales and repurchases”
of collateral, are in effect secured short-term loans, usually
repayable the next day or in two weeks. Repo replaces the security of
deposit insurance with the security of highly liquid collateral,
typically Treasury debt or mortgage-backed securities. Although the
repo market evolved chiefly to satisfy the needs of the large
institutional investors that were its chief lenders, it also served
the interests of the banks
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it allowed them to get around the capital requirements imposed by
regulators on the conventional banking system. Borrowing from the repo
market became so popular that by 2008, it provided half the credit in
the country. By 2020, this massive market had a turnover of $1
trillion a day.

Before 2008, banks also borrowed from each other in the fed funds
market, allowing the Fed to manipulate interest rates by controlling
the fed funds rate. But after 2008, banks were afraid to lend to each
other for fear the borrowing banks might be insolvent and might not
pay the loans back. Instead the lenders turned to the repo market,
where loans were supposedly secured with collateral. The problem was
that the collateral could be “rehypothecated,” or used for several
loans at once; and by September 2019, the borrower side of the repo
market had been taken over by hedge funds
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which were notorious for risky rehypothecation. Many large
institutional lenders therefore pulled out, driving the cost of
borrowing at one point from 2% to 10%.

Rather than letting the banks fail and forcing a bail-in of private
creditors’ funds, the Fed quietly stepped in and saved the banks by
becoming the “repo lender of last resort.” But the liquidity
crunch did not abate, and by March the Fed was making $1 trillion per
day available in overnight loans. The central bank was backstopping
the whole repo market, including the hedge funds, an untenable
situation.

In March 2020, under cover of a national crisis, the Fed therefore
flung the doors open to its discount window, where only banks could
borrow. Previously, banks were reluctant to apply there because the
interest was at a penalty rate and carried a stigma, signaling that
the bank must be in distress. But that concern was eliminated when the
Fed announced in a March 15 press release
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that the interest rate had been dropped to 0.25% (virtually zero). The
reserve requirement was also eliminated, the capital requirement was
relaxed, and all banks in good standing were offered loans of up to 90
days, “renewable on a daily basis.” The loans could be continually
rolled over. And while the alleged intent was “to help meet demands
for credit from households and businesses at this time,” no strings
were attached
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to this interest-free money. There was no obligation to lend to small
businesses, reduce credit card rates, or write down underwater
mortgages.

The Fed’s scheme worked, and demand for repo loans plummeted
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Even J.P. Morgan Chase, the largest bank in the country, has
acknowledged borrowing at the Fed’s discount window
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for super cheap loans. But the windfall to Wall Street has not been
shared with the public. In Canada, some of the biggest banks slashed
their credit card interest rates
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in half, from 21 percent to 11 percent, to help relieve borrowers
during the COVID-19 crisis. But US banks have felt no such
compunction. US credit card rates dropped in April
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only by half a percentage point, to 20.15%. The giant Wall Street
banks continue to favor their largest clients, doling out CARES Act
benefits to them first, emptying the trough before many smaller
businesses could drink there.

In 1969, Prime Minister Indira Gandhi nationalized 14 of India’s
largest banks, not because they were bankrupt (the usual justification
today) but to ensure that credit would be allocated according to
planned priorities, including getting banks into rural areas and
making cheap financing available to Indian farmers.  Congress could
do the same today, but the odds are it won’t. As Sen. Dick Durbin
said in 2009 [[link removed]], “the
banks … are still the most powerful lobby on Capitol Hill. And they
frankly own the place.”

TIME FOR THE STATES TO STEP IN

State and local governments could make cheap credit available to their
communities, but today they too are second class citizens when it
comes to borrowing. Unlike the banks, which can borrow virtually
interest-free with no strings attached, states can sell their bonds to
the Fed only at market rates of 3% or 4% or more _plus a penalty_
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Why are elected local governments, which are required to serve the
public, penalized for shortfalls in their budgets caused by a
mandatory shutdown, when private banks that serve private stockholders
are not?

States can borrow
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from the federal unemployment trust fund, as California just did for
$348 million, but these loans too must be paid back with interest, and
they must be used to cover soaring claims for state unemployment
benefits. States remain desperately short of funds to repair holes in
their budgets from lost revenues and increased costs due to the
shutdown.

States are excellent credit risks – far better than banks would be
without the life-support of the federal government. States have a tax
base, they aren’t going anywhere, they are legally required to pay
their bills, and they are forbidden to file for bankruptcy. Banks are
considered better credit risks than states only because their deposits
are insured by the federal government and they are gifted with routine
bailouts from the Fed, without which they would have collapsed decades
ago.

State and local governments with a mandate to serve the public
interest deserve to be treated as well as private Wall Street banks
that have repeatedly been found guilty of frauds on the public. How
can states get parity with the banks? If Congress won’t address that
need, states can borrow interest-free at the Fed’s discount window
by forming their own publicly-owned banks. For more on that
possibility, see my earlier article here
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As Buckminster Fuller said, “You never change things by fighting the
existing reality. To change something, create a new model that makes
the old model obsolete.” Post-COVID-19, the world will need to
explore new models; and publicly-owned banks should be high on the
list.

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Ellen Brown is an attorney, chair of the Public Banking Institute
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including Web of Debt
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Public Bank Solution
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and Banking on the People: Democratizing Money in the Digital Age
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radio program on PRN.FM [[link removed]] called “It’s Our Money
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posted at EllenBrown.com [[link removed]].

 

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