Martin Armstrong is definitely one of the foremost experts on currency through the history of time.
The Federal Reserve: Part I “The Creature from Jekyll Island”
This is like asking to criticize the Bible since so many people believe every word written in this book. Well here it goes. Thousands of hate e-mails will flood in, but conspiracy myths be damned, they are a cover-up for the real culprit – Congress. Some people hate central banks because of this book, they believe Andrew Jackson was a hero and are oblivious to the fact that he set off a round of wildcat banking that ended in yet another sovereign debt default among the states who then tried to bailout their own banks.
Well, fiction be damned. “The Creature From Jekyll Island” is amateurish at best and another total misrepresentation of the facts and events. It is very one-sided and ignores the real political manipulation of the Fed by the government for their own self-interest. It promotes the very same Marxist/socialistic beliefs from the Progressive Era that gave us the New Deal and robbed every one of their future: altering the family structure in the West forever.
The original design of the Fed was to be private, for banks were to contribute to fund their own bailouts, as JP Morgan had done taking the lead during the Panic of 1907. It was not to be a government bailout operation. The United States had no central bank at that time. There was never any intent to create the institution as it exists today: the original design was altered dramatically by lawyers who never understood the madness of their own minds in their pursuit of power as politicians.
We must also look at the context of the era from which Griffin draws his ideas. We must be EXTREMELY careful for much of what he said is sheer propaganda, directed at the bankers to support the rise of Marxism – the new Progressive Movement. This movement finally succeeded with the New Deal and the Great Depression focusing blame at bankers, when in fact Europe collapsed into a Sovereign Debt Crisis in 1931, which sent the dollar soaring and a capital concentration from around the world made the 1929 high just as the Nikkei peaked in Japan during 1989. To look at this era we absolutely MUST step back and look at the whole situation dispassionately. If we do not put this conspiracy aside, we will never understand what really needs to be reformed.
Before Woodrow Wilson became president, he was the head of Princeton University, and uttered praise for Morgan and his effort to save the banking system during the Panic of 1907. The Marxists were responsible were turning the bankers to evil in an attempt to eliminate freedom. After all, this was the rising sentiment cheering Marxism and demonizing capital focus on the bankers. This was their agenda that we are still plagued by to this day. This book championed the entire Marxist argument without realizing whose side he took.
We must be EXTREMELY careful here for to advocate the end of central banking is to advocate communism. Do not forget that 1917 saw the Russian Revolution, and in 1918 the Communist Revolution in Germany that produced their famous hyperinflation. Be careful what you wish for, if it became true you would hand more power to government, and they would love that to happen. Their goes all your freedom and with electronic money, you will be converted to economic slaves for the state, not so different from just living the dream in the Matrix. Ask yourself, do you want the truth or do you prefer to live the dream? Their dream by the way, not yours.
The difference between the bankers of Morgan’s day and today is very different. The crisis unfolded because of the classic mismatch between deposits, which are on a demand basis, and loans, which are long-term like mortgages. When the demands to withdraw exceed available cash (fractional banking), the bank fails. Today, the bankers are traders and have moved to transactional banking to stay liquid abandoning the old days of Morgan when banks were relationship oriented and did not resell the loans they made acting more like brokers.
JPMorgan Chase CEO, Jamie Dimon, told Congress that the bank’s massive loss can be blamed on insufficient risk controls and a failure by traders to understand the bets they were placing. He actually stated that he failed in his management yet retained the job for he was really fully on-board. This is not relationship banking and it is entirely different from the days of J.P. Morgan view of banking. Dimon lobbied Congress to rollback Dodd-Frank so they could continue to trade maintaining their transaction banking model they used to get Congress to repeal Glass-Steagall by the Clinton Administration and now Hillary begs for money from the same people and wants to run the nation as SHE DID before (like Cheney). Thanks to the Clintons, who are always available to the highest bidder, when the banks blow up on trading again, this will bite Congress in the ass for the 2016 elections. I hope that if we understand the problem, we will make the right solution this time if we examine the truth.
Yes, the Fed began effectively as private consortium of banks to accomplish what J.P. Morgan did to rescue the banking system during the Panic of 1907 that saved the day. The banking crisis of that era was not due to people blowing up with their trading as in Transactional Banking today. The Panic of 1907 was the classic mismatch between demand and loans – the fractional banking element.
Morgan-JPA period of a temporary cash shortage burst forth during the Panic of 1907. John Pierpont Morgan (1837-1913) saved the day despite receiving criticism for ignoring his great patriotism and contribution to the country. The Panic began when there was an attempt to manipulate the market in United Copper Company, which was a short squeeze that backfired. This was the catalyst, not the cause. The spark ignited the Panic that took place. They borrowed money to buy stock to create the squeeze from the Knickerbocker Trust and suddenly they could not pay back their loans, bringing the bank into failure. J.P. Morgan gathered his associates to examine the books of the Knickerbocker Trust but found it was insolvent and decided not to intervene to stop the run. When it became clear the Knickerbocker Trust would fail, the run spread to other banks and a contagion grew. The Trust Company of America asked Morgan for help. Morgan now brought in First National Bank and National City Bank of New York (later Citi Bank), and the US Secretary of the Treasury. Morgan had a quick audit of the bank and declared that this was where to defend. As the run began, Morgan worked with his associates to sell the assets of the bank to free up cash for the depositors. The bank survived the close of business that day for this is always a CONFIDENCE game.NYSE-1908Morgan knew that this collapse in CONFIDENCE would not end by just saving the Trust Company of America. Morgan now summoned the heads of various banks in New York and kept them until they agreed to provide loans of $8.25 million. Morgan convinced the Treasury to deposit $25 million in NY banks. John D. Rockefeller, the wealthiest man in America, deposited $10 million with City and called the Associated Press to announce his pledge to help the NY banks. Nonetheless, the New York banks then, as now, proved to be their worst enemy. Despite the efforts of Morgan to create this infusion, they were reluctant to lend any money for short-term stock trading. The stock market crashed as a result. By 1:30 pm on October 24th, the president of the NYSE went to tell Morgan the exchange would close early. Morgan was livid. He understood that this would reinforce the Panic and he drew the line and would not allow it. Morgan warned that if the NYSE closed early, it would be catastrophic to say the least. Once again, he summoned the bankers who arrived by about 2:00 pm and Morgan pretty much yelled at them, warning that as many as 50 stock brokerage firms would fail unless they could raise $25 million within the next 10 minutes! By 2:16 pm, 14 banks pledged $23.6 million to keep the stock exchange alive. The money reached the exchange by 2:30 pm, to finish trading at 3:00 pm. In reality, they only needed to reach $19 million. Despite his hatred for the press who seldom treated him fairly, Morgan gave a rare comment to the press, discussing the matter at hand.Panic-1907-1
The next day, the NYSE needed more money, but this time Morgan could only raise $9.7 million. Morgan directed the NYSE not to use the money for margin sales or short selling. The exchange made it to the close. Morgan knew he had to turn the minds of the people and to restore their critical CONFIDENCE to stop the Panic. Morgan than formed two committees: one for persuading the clergy to preach calm to their congregations on Sunday, and the other to sell the idea of claim to the press. Morgan was desperately trying to hold the nation together. Unknown even to his associates, the City of New York could not raise enough money through its bond issue and it informed Morgan that it needed $20 million by November 1st, 1907, or the city would go into bankruptcy. Morgan himself contracted to purchase $30 million in New York City bonds.
On November 2nd, 1907, one of the largest stock exchange brokers, Moore & Schley, was heavily in debt using the Tennessee Coal, Iron & Railroad Co. stock as collateral. The thinly traded stock was under pressure. Their creditors would now surely call their loans. Morgan called another emergency meeting for a proposal put forth that US Steel Corp, would acquire the stock in bulk. Yet another crisis was looming. Runs were now likely to hit two banks on Monday. Morgan summoned 120 banks and told them he would not proceed with the US Steel deal unless they supported the banks.
Morgan proceeded to lock them in his library and told them they have to come up with $25 million to save the banks. It took almost 2 hours. Morgan finally convinced them that they had to bailout the banks to save their own skins. They signed the agreement, and he unlocked the doors and let them leave.
Morgan was saving the nation again, single-handedly. He then turned back to save the NYSE. He knew the problem would be the Marxist inspired Antitrust Laws (Sherman Antitrust Act), and the crusading Marxist/Progressive President Teddy Roosevelt (1858-1919). Breaking up companies that he believed were monopolies became the primary focus of Roosevelt’s administration. To save the day, he would have to see that the Antitrust Laws must yield.
Two men thus traveled to the White House to implore Roosevelt to set aside his Antitrust Laws to save the nation. As typical, Roosevelt’s secretary refused to let them in to discuss the problem. The two men, Frick and Gary of US Steel turned to James Garfield who was Secretary of the Interior at that time and son former President Garfield. They pleaded with him to go to the president directly. Garfield had convinced Roosevelt to review the proposal and Roosevelt was for the first time forced in to a corner. He had to realize a collapse of the NYSE would take place if he did not yield in his anti-corporate beliefs. Roosevelt later lamented:
“It was necessary for us to decide on the instant before the Stock Exchange opened, for the situation in New York was such that any hour might be vital. I do not believe that anyone could justly criticize me for saying that I would not feel like objecting to the purchase under those circumstances.”
Following the near catastrophic financial disaster known as the Panic of 1907, the movement for banking reform picked up steam among Wall Street bankers, Republicans, and a few eastern Democrats. However, much of the country was still distrustful of bankers and of banking in general, especially after Panic of 1907. After two decades of minority status, Democrats regained control of Congress in 1910 and were able to block several Republican attempts at reform, even though they recognized the need for some kind of currency and banking changes. As always, it was more important to further political party power than actually do the right thing for the nation.
In 1912, President Woodrow Wilson (1856–1924) won the Democratic Party’s nomination for president, and in his populist-friendly acceptance speech, he warned against the “money trusts,” and advised that a concentration of the control of credit may at any time become infinitely dangerous to free enterprise. It was the anti-Wall Street agenda.
Behind the scenes, the Panic of 1907 revealed the weak underbelly to the American financial system. After the scare that the Panic of 1907 created among the bankers, they demanded reform. The following year, Congress enacted the Aldrich-Vreeland Act of 1908 establishing the National Monetary Commission forming a study group of experts to come up with a nonpartisan solution. They viewed the lack of a central bank in America, in contrast to Europe, as the threat to economic stability among the bankers as filled by J.P. Morgan during that crisis.
A National Monetary Commission formed and the Republican leader in the Senate, Senator Nelson Aldrich (1841-1915) took charge. Aldrich was a brilliant man who was passionate about revising the American financial system. The Commission went to Europe and was duly impressed at how well they believed the central banks in Britain and Germany handled the stabilization of the overall economy and the promotion of international trade. The Commission issued some 30 reports between 1909 and 1912, which preserved a wonderful detailed resource surveying of banking systems of the late 19th and early 20th centuries at that time. These reports examined also the Canadian banking history in addition to the banking and currency systems of Belgium, England, France, Germany, Italy, Mexico, Russia, Switzerland, and other nations. They also provided an excellent review of domestic U.S. financial laws federally as well as state banking statutes. These reports contain essays of contemporary specialists as well as a host of data in tables, charts, graphs, and facsimiles of banking forms and documents. There are also transcripts of relevant political speeches, interviews, and various hearings.
In 1910, Aldrich met with Frank Vanderlip of National City Bank (Citibank), Henry Davison of Morgan Bank, and Paul Warburg of the Kuhn, Loeb Investment House secretly. They met at Jekyll Island, a resort island off the coast of Georgia, to discuss and formulate banking reform, including plans for a form of central banking that would accomplish the role of J.P. Morgan played during the Panic of 1907. They held the meeting in secret because the participants knew that the House of Representatives would reject any plan they generated given the intense hatred of the bankers and Wall Street in the festering Marxist/Progressive atmosphere.
Unfortunately, because this meeting was in secret involving Wall Street, the whole Jekyll Island affair remains cloaked in conspiracy theories. Nevertheless, this intense bias and conspiracy theory has always overestimated both the purpose and significance of the meeting in light of the extensive work of the National Monetary Commission. Reform was essential. However, those two words – political economy – could not be divorced.
Upon his return, Aldrich’s investigation led to his plan in 1912 to bring central banking to the United States with all its promises of financial stability and expanded international roles in trade and money flow. Aldrich knew the dangers of American politics and insisted that control by impartial experts was essential. Placing bankers at the helm rather than politicians was really the only way to proceed. The two words, political economy, had to be divorced in his mind. There was to be absolutely NO political meddling in finance as had been the case under Andrew Jackson (1757-1845). Aldrich asserted that a central bank was essential yet the diversity and size of the United States presented a distinctly different twist to the European situation.
Aldrich concluded that Europe had many countries with diverse economic models. He realized that while the United States needed a central bank, paradoxically it also required simultaneous decentralization to cope with both the economy and the self-defeating American political system. Aldrich appreciated the fact that local politicians and bankers would attack the central banks, as they had the First and Second Bank of the United States. Aldrich introduced his brilliant plan in 62nd and 63rd Congresses (1912 and 1913). As always, the political winds changed and the Democrats in 1912 won control of both of the House and the Senate as well as the White House.
The Aldrich Plan proposed a system of fifteen regional central banks, called National Reserve Associations, whose actions were to be coordinated by a national board of commercial bankers to do NO more than be a lender of last resort as J.P. Morgan had acted during the Panic of 1907. The National Reserve Association would make emergency loans to member banks, they would create money to provide an elastic currency that enabled equal exchanges for demand deposits, and would act as a fiscal agent for the federal government. Congress ended up rejecting Aldrich’s idea, which was defeated in the House as politics superseded the national good. However, his outline did become a model for a future implemented bill. The problem with the Aldrich Plan was that it gave bankers control over the regional banks, a prospect that did not sit well with the populist Democratic Party or with President Wilson. The Democrats and Wilson were fearful that the reforms would grant more control of the financial system to bankers and the politicians could not meddle as they saw fit. The history of the First and Second Bank of the United States was repeating. The political economy cannot be divorced.
The need for a central bank was really far too great and even the Democrats recognized it behind closed doors. Eventually, the Federal Reserve Act passed 43-25 and this altered the actual role of currency. MONEY was now becoming “elastic” for the Federal Reserve would issue currency notes thereby creating a money supply that increases and decreases as the economy expands and shrinks. This new “Elastic Money” would become an essential function of the Federal Reserve System in its early days, where it would regulate the amount of money supply permitted to be in circulation. This was essential due to the wild swings during the 19th century in the economy caused by the chance discoveries of gold in California, Alaska, and silver that disrupted the economy and arbitrarily increased the money supply with nobody in charge.
Effectively, the 20th century saw unrestrained printing of paper dollars caused by political fiscal mismanagement whereas the 19th century was plagued by chance discoveries of precious metals that had the same effects. The California Gold Rush injected a huge wave of inflation because the sheer supply of money increased sharply. The same argument that paper money has caused inflation during the 20th century applied to gold during the 19th century.
Essentially, this new ability to have an Elastic Money Supply became a perceived necessity to ensure that the reserves held in trust by the government were adequate to back the amount of coins and currency permitted to circulate. It was a nonpartisan decision to deal with shifts in the economy whereas politicians could not be responsible no matter what. The Federal Reserve would now prevent excessive conditions that would lead the country into financial chaos and ultimate ruin as nearly took place during the Panic of 1907. The Fed would expand the money supply during periods of economic decline and contract the money supply during economic booms. Of course, the politicians would later seize control of the Fed and ensure it would be party time all the time.
Optimal monetary policy is supposed to facilitate exchange within the economy to avoid aggregate shocks that affect individuals and economic sectors (industries) unequally. Exchange may be conducted using either bank deposits that some see as “inside money” or “fiat” currency, which some refer to as “outside money” that is created by leverage or fractional banking. A central monetary authority both controls the stock of “outside money” and pursues an interest rate policy that is intended to affect the rate at which private banks create “inside money”. The modern context views it as the optimal monetary policy, requiring management of both interest rates and the quantity of outside money. By controlling interest rates the monetary authority can affect the price level in the short-run and adjust households’ consumption, so they believe, and therefore this provides insurance against unfavorable aggregate shocks to the money supply tempering the boom-bust cycle.
However, the feasibility of manipulating the interest rate policy and the quantity of money, as we will see, is purely a fantasy in the new modern global economy. These concepts quickly proved to be far too parochial. The global economy was about to receive a major shock that would turn it on its head – World War I which began July 28th, 1914 and lasted until November 11th, 1918. The war involved more than 70 million military personnel, including 60 million Europeans, and a loss of more than 9 million soldiers killed in combat. The assassination of Archduke Franz Ferdinand of Austria on June 28th, 1914 was the excuse for the war, but in reality, it was the culmination of centuries of contests for imperialistic power in Europe. Ferdinand was the heir to the Austria- Hungarian Empire throne, which was the remnant of the Holy Roman Empire. This allowed the hatred between many rivals bringing into the conflict the German Empire, Ottoman Empire, Russian Empire, British Empire, French Empire, and Italy. In the end, the Financial Capital of Europe, which migrated from Babylon to Athens, then Rome, Byzantine, Northern Italy centered in Florence/Genoa/Venice, to Amsterdam, and then to London in 1689, now migrated to the United States beginning in 1914.
With World War I, the American politicians began to alter the Fed. Its original design was brilliant. To stimulate the economy and suppress unemployment, they would buy corporate paper. With World War I, Congress ordered the Fed to support the US debt. They would not return to the original design of the Fed set out in 1913.
With the Great Depression, the major banking collapse took place largely due to the Sovereign Debt Default of 1931. Banks failed as money vanished from circulation collapsing the velocity. Asset values collapsed and land, which had sold for $2.50 an acre during the mid-1800s, fell to 10 cents. No degree of limiting fractional banking would save the day when the bond market collapses. We see the huge spike in foreign bonds listed in 1928 on the NYSE, and the collapse as defaults began to rage from 1931 onward.
Franklin Roosevelt, every much a socialist as Teddy even though a Democrat, altered the Fed usurping all power to Washington. The branches remained, but they no longer served the purpose of managing the local economy. It was now one-size-fits-all. It would be Congress who appoints the directors and Fed Chairman, while the technical ownership of a rescue fund for bankers is only there in name, not reality. Goldman Sachs switched tactics and installed its people in the Treasury not for banking, but for trading. They were Obama’s biggest contributors, but make no mistake: Goldman Sachs is a trader, not a bank with branches taking deposits from little old ladies.
Today, the Fed is nothing like its original intended design. This alter was not caused by bankers, but by politicians. Now, it has the authority to take over anything it thinks is too big to fail, which is not limited to banks. It could take over Google, McDonalds, or anything as long as it states it would harm the economy.
We need a central bank, but not one manipulated by government. There should be a simple insurance fund for banks as originally intended without using taxpayers’ money. It should not be restricted to buying government debt. Instead, it should protect jobs by its original focus to buy corporate paper in times of stress. We must look closely at the Fed to see that its manipulation by Congress for political reasons. It was supposed to support government bonds during World War II, but it took until 1951 to rescind.
The Fed is not evil, but rather it is the manipulation of the Fed by politicians. It is use to blame for economy booms and busts while Congress avoids all responsibility. Now, the Fed is stuck in a very difficult situation. It is charges with Keyensian/Marxist ideas of manipulating the economy when its original design was only to deal with a banking crisis.
Tomorrow we will look at the risks we now face from the REALITY of political manipulation of the Fed.
The Federal Reserve: Part II
The amount of propaganda against the Federal Reserve is incredible. What we must keep in mind is that its original design, which lasted for about one year, was brilliant. The classic banking model, borrowing from depositors on a demand basis and lending long-term making a profit on the spread in interest rates, such as business loans and mortgages. This was Relationship Banking not today’s Transactional Banking model.
Yes, this was fractional banking insofar as about 8% of the money needed to remain free to service demand requirements. The crisis comes during an economic contraction when people run to the bank for a loss of confidence and demand to withdraw their funds. This results in the value of cash rising in purchasing power, compared to assets, so asset values collapse.
The idea of “elastic money” was to increase the supply of cash during such a crisis to meet the demand for withdrawals and that would offset the need to sell assets by calling in long-term debts. By increasing the money supply on a temporary basis, the Fed could offset the contraction in theory smoothing out the business cycle.
This was a brilliant scheme. However, it has been Congress, and not the Fed, who has corrupted that mechanism. The Fed was owned technically by the banks as this was supposed to save the taxpayer money. The banks should contribute to their own bailout fund.
Furthermore, the Fed’s design was also about buying in corporate paper when banks would not lend money. This was a mechanism used to offset rising unemployment if corporations could not fund their operations. They supplemented this by the management of regional interest rates to balance the domestic economy. Each branch of the Fed could raise or lower their local interest rate autonomously to attract capital when there was a local shortage or deflect capital when there was too much. This would often take place with the crop cycle, as money would flow in to pay the farmers upon delivery. Regional capital flows became the Texas-New York arbitrage for when Texas was booming New York was in recession and vice versa. This was the original design and purpose behind the Fed. The Jekyll Island meeting was held in secret ONLY because there was a very strong resentment against anyone with wealth as Marxism dominated the Progressive Movement of the era. There was no such cabal to create some evil entity.
Congress began to manipulate the Federal Reserve for their own self-interest when World War I broke out on April 6, 1917. The alteration to the design of the Fed was to direct it to buy government bonds, not corporate. In this first step, they never reverse this decree after the war. They removed the brilliant design to stimulate the economy directly by purchasing corporate paper during a recession. In the last 2007-2009 crisis, the government wrote a check to TARP and hoped that the banks would lend money, but they did not. Removing this first pillar of the independent Fed distorted the entire system. It then made little sense for bankers to own share in an entity that was no longer privately controlled.
During the Boom-Bust Cycle of 1929, banks became traders. Whatever they could make money on was fair game. Goldman Sachs was caught-up in the whole bull market just like everyone else. Under the leadership of Waddill Catchings, who led the firm into joining the hot market by creating an “investment trust” where he saw that a giant fund could maximize profits by buying and selling stocks. He promoted this as a business that was professional, and the profession was investing.
The Goldman Sachs “investment trust” was sort of the domestic “hedge fund” of its day. Everyone was jumping into the game. Catchings was caught-up in the whole thing and was very bullish going into the high of 1929. He gave this new entity the name: Goldman Sachs Trading Corporation. The deal was that Goldman Sachs would be paid 20% of the profit, offering stocks at $104 per share. The stock jumped to $226 per share – twice its book value. This would be the very same mistake exposed in the Crash of 1966 when shares in mutual funds traded on the exchange allowing them to be bid up well beyond their asset value.
The whole bullish atmosphere was very intoxicating. Just three months into the fund, Goldman Sachs arranged for a merger of the trust fund with Financial & Industrial Corporation that controlled Manufacturers Trust Company that was a giant group of insurance companies. This doubled the assets of Goldman Sachs Trading Corporation taking it up to a staggering near $245 million. This was huge money in those days. The trust exploded and the assets under control are said to have exceeded $1 billion.
Goldman Sachs expanded the leverage going right into the eye of the storm that was about to hit starting on September 3rd, 1929. In the summer of 1929, Goldman Sachs launched two more trusts: Shenandoah and the memorable Blue Ridge. The shares were over-subscribed; Shenandoah began at just $17.80 and it closed on the first trading day at $36 per share. Blue Ridge was leveraged even more, and the partners at Goldman Sachs put pressure on everyone to buy as a sign of support. The leverage was astonishing for with just about $25 million in capital, there was now more than $500 million at stake.
The disaster was monumental to say the least. Goldman Sachs Trading Company, whose shares had stood at $326 at their peak, fell during the Great Depression to $1.75. They fell to less than 1% of their high. The loss suffered at Goldman Sachs on a percentage basis was far worse than at any other trust. In fact, of the top trusts, Goldman Sachs had lost about 70% of the entire trust market.
Goldman Sachs was awash with lawsuits and it became the target of jokes in Vaudeville. This would fuel the anti-Jewish feeling in New York for decades to come. Samuel Sachs died in 1934 at the age of 84. He was devastated, for what he had worked for was to build the firm’s reputation. That is what broke the family in two.
The Glass-Steagall Act, also known as the Banking Act of 1933 (48 Stat. 162), was passed by Congress in 1933 and prohibited commercial banks from engaging in the investment business. It was enacted as an emergency response to the failure of nearly 5,000 banks during the Great Depression. Why? Because banks sold trusts and foreign sovereign government bonds to the public in small denominations. During the Stock Market Crash of 1929, amid accusations that Goldman had engaged in share price manipulation and insider trading, this was the actual drive behind the act. Goldman Sachs inspired the decision to ban insider trading in the United States in 1934.
Goldman Sachs then installed Robert Rubin under Bill Clinton as Secretary of the Treasury. Ironically, the very firm that inspired Glass-Steagall seized control of Congress with political donations to get it overturned. This began once again the age of Transactional Banking.
The Federal Reserve: Part III – The Takeover
Roosevelt established the Federal Deposit Insurance Corporation (FDIC) in 1933, assuring people it was safer to keep their money in a reopened bank than under the mattress. Then on August 23, 1935, Congress approved legislation that had a major impact on the Federal Reserve Banks, the Banking Act of 1935. This Act structurally altered forever the entire concept behind the Federal Reserve, whereas its purpose originally was to provide stability with respect to internal capital flows in addition to a regulatory clearing house for the banks. Each branch maintained its separate interest rate to attract capital to a region or to deflect it to prevent another Panic of 1907 when cash flowed from the east to the west because of the San Francisco Earthquake of 1906.
This is where the Open Market Committee was established and national monetary and credit policies were determined in Washington which would gradually become the new political economy and Laissez–faire was now officially dead.
As World War II approached, politics took control of the Fed. Once again the Fed was ordered to support US government bonds at par. This decree was not lifted until 1951. The Fed remained fairly independent thereafter until the Vietnam War. Politicians viewed its authority to increase the money supply on an elastic basis meant that inflation was their problem, not Congress’. Politicians began to spend whatever they wanted to win election and criticized the Fed if inflation appeared when they had no control over the fiscal spending of Congress.
The entire Bretton Woods system of fixed exchange rates backed by gold pegged permanently to $35 was stupid and became a nightmare. The military establishment that Eisenhower warned about upon leaving office wanted to rule the world. The Presidential Debate of 1960 between Kennedy and Nixon set off the first Gold Panic. Kennedy correctly addressed the decline in the value of the dollar. He stated that the US could stop the decline anytime it desired. All they had to do was stop expanding the military around the world.
The fiscal mismanagement of Congress continued until finally on June 4th, 1963, Kennedy signed Executive Order 11110 which dealt with the problem that silver was rising in price and therefore it could no longer be used for a monetary instrument given the Bretton Woods fixed rate ideas. This is why there can be no standard because everything with time fluctuates. The Treasury was under order to maintain the fixed rate of silver and there was a tax placed on trading in silver back in the Great Depression in 1937. Kennedy was authorizing the Treasury to issue notes ONLY if needed for the transition in the elimination of silver from the monetary system. It has nothing to do with stripping the authority of the Federal Reserve to issue notes.
The collapse of Bretton Woods was underway. It became self-evident with the Crash of 1966. The stock market fell 26.5% in about 8.6 months, but so did collectibles and other investments for the bearishness on the dollar reached excessive levels. Then the market recovered reaching back to the former highs in 1968. The decline resumed and the market fell for about 17.2 months into May of 1970.
Bretton Woods was collapsing in slow motion. From the first gold panic in 1960, 11 years later the world financial system collapsed. It was 8.6 years from the Kennedy decision to abandon silver. Richard Nixon who had debated Kennedy in 1960, was forced to close the Gold Window on August 15th, 1971. It was Nixon who set in motion the withdrawal from Vietnam. He opened China in hopes of putting pressure on Vietnam to reach a settlement, but that failed. Nixon knew that the military establishment undermined the economy.
Of course, European politics was the polar opposite of the USA. There, a stronger currency proved they were doing a good job of rebuilding the economy post-war. The French and the Swiss were leading the charge to demand gold for dollars. The French had visions of conquering the financial world and dethroning the dollar to grasp that golden wreath of victory snatched from the hands of Napoleon.
The 1970s were all about trying to fight inflation caused by the decline in the purchasing power of the dollar. German cars had more than doubled in value through the 1970s. Gold had risen to $875 on January 21st, 1980. Volcker took charge of the Fed and used gold as his sign of success at first, but then abandoned that as any guidance. He raised rates into March of 1981 taking the discount rate to 14%. When the inflation broke and the dollar then soared to record highs going into 1985, rates had declined back to 8%. This would set that stage to the dramatic escalation in the national debt, for it stood at almost $1 trillion in 1982, and reached almost $6 trillion by 1999.
Voclker’s battle with inflation set in motion the major factor of inflation – government spending. The Federal Reserve was stripped of any real power to manipulate the economy for they lacked any control over the fiscal spending of Congress The attempt to raise interest rates to fight inflation, send the national debt soaring and the proportion of interest costs sky-rocketed and eventually reached about 70%. The whole idea of socialism to benefit the people was inverted to benefit the bond holders. Then the movement to return to a gold standard was unleashed, which would have been a huge benefit to bondholders and strip-mining the people of whatever liberty and assets they managed to earn. The bond holders would have profited tremendously.
The Federal Reserve: Part IV – The Bankers Strike Back
The entire theory of how to manage an economy via the rise and fall of the money supply being the sole cause of inflation or deflation was discredited post-1971 with the birth of the Floating Exchange Rate System. Unbeknownst to the vast majority, the entire accounting system of trade had been constructed upon the Bretton Woods system. There was no need to actually count the number of Toyota cars coming in at the dock, for all you had to do was count the dollars in and out and under a fixed exchange rate system, this meant more or less goods. However, this short cut made sense with fixed exchange rates, not when currency fluctuated.
The 1970s produced rising prices (inflation) but declining economic growth, which became known as STAGFLATION. This was a cost-push type inflation whereas OPEC sent oil prices soaring so the costs rose dramatically forcing prices to rise even in recession. Therefore, it became possible for inflation to rise without an increase in money supply or even consumer demand. The consumer post-1976 responded by purchasing goods now to save money tomorrow, much as the consumer rise in spending in Tokyo ahead of the implementation of taxes. Likewise, real estate sales will typically rise when the consumer begins to see mortgages rates rising, not falling. The consumer responds to the trend in motion.
Raising interest rates to fight a mixed type of inflation only sent the government spending into hyper-drive because it was on automatic pilot. Congress was expecting the Fed to control inflation, but meanwhile, government budgets increased per department for they had been indexed to the CPI. President Jimmy Carter required the adoption of Zero-Base Budgeting (ZBB) by the federal government during the late 1970s. Zero-Base Budgeting was an executive branch budget formulation process, introduced into the federal government in 1977. Volcker tried his best, but all he could do is stop the consumer speculation. He had himself delivered a lecture in 1978 he entitled the Rediscovery of the Business Cycle.
No longer were departments required to send in a budget each year and have it approved by Congress. This new Zero-Base Budgeting process meant that whatever they spent the previous year would be automatically renewed, indexed to inflation. This further created the now standard practice of wastefully spending whatever they had remaining just to avoid cuts the following year.
The entire landscape was altered in how government now fit into the economy. It became impossible for the Fed to control inflation. As you can see, despite the recession 1974-1976 and 1981-1985, both the CPI and money supply kept rising. There was a total disconnect from the traditional economic theories and the view that the Fed was in the driver seat was just not realistic. The entire fate of the economy was not on a new paradigm of economic interaction.
This would be a leading cause of the 19-year decline in gold and the complete discrediting of the old-world view of inflation and money supply punctuated by the claim that paper money was fiat. The floating exchange rate system ended the concept that money had to be tangible, freeing it to move according to the worth of the people and their total productive capacity. This changed everything and then Carter’s Zero-Base Budgeting created an automatic pilot process that nobody understood just how it would alter the behavior of whole departments. It was Adam Smith’s Invisible Hand inside government – spend it or lose it.
The global economy was changing and taking a giant leap forward in economic reality. This decoupling of money from the concept of a barter system where it had to be some object between two other objects, Japan soared to the second largest economy in the world without old or natural resources. They proved the new era was here – the dawn of money that reflected the capacity of the people to produce distinguished skills and educated society from those that were still primitive. This also had a profound impact upon the commodity industry and its take over of Wall Street that began precisely with the ECM peak of the 51.6 year wave 1981.35.
The company known at first as Philipp Brothers was founded in 1901. It was later acquired and became the Philipp Brothers Division of Engelhard Minerals & Chemicals Corporation, the major gold refinery of 1967. In 1981, the company was spun off as Phibro Corporation, and that same year the company subsequently acquired Salomon Brothers, creating Phibro-Salomon Inc. Phibro Energy, Inc. was established in 1984, absorbing the oil department of Philipp Brothers. There was a rather famous connection between Marc Rich (1934 – 2013) and PhiBro. Rich once worked for Philipp Brothers, but left the firm in 1974 to set up a Swiss operation known as Marc Rich & Co. AG, which would later become Glencore Xstrata Plc. Rich was indicted for tax evasion and never returned to the USA, staying in Switzerland. Bill Clinton not only repealed Glass Steagall for Goldman Sachs, he also granted Marc Rich a controversial pardon.
In 1981, commodity trading firm Phibro Corporation acquired Salomon Brothers, which was founded in 1910 by three brothers along with a clerk named Ben Levy. In 1978, John Gutfreund rose as the head of Salomon Brothers, which had remained a partnership. Gutfreund was now selling the firm to the huge commodity firm Philips Brothers of Marc Rich fame, known as Phibro on the street. This takeover was right in line with the major high on the Public Wave that peaked at 1981.35.
PhiBro were great traders coming from the commodity markets. They had conquered the world in 1980, shorting gold and silver, and thus were now trying to buy Salomon Brothers when they were at the top of their cycle. Gutfreund became a co-CEO with Phibro’s David Tendler. The currency swing following 1981 was dramatic from a percentage basis. Neither PhiBro nor Salomon Brothers comprehended what was going on internationally regarding capital flows. They got caught in this new pendulum swing with extremely high volatility. The commodities crashed and burned, and the tables were turning. This shifted the profit base from PhiBro now to Salomon Brothers. Gutfreund now seized control and started to expand the firm into the currency trading, and enlarged the firm’s positions in underwriting and share trading. Salomon Brothers was now also trying to expand into Japan, as well as Germany and Switzerland.
The firm that had risen to such heights, known as the “King of Wall Street” saw its profits peak precisely with the 1985 turn in the Economic Confidence Model at about a half-billion dollars. The markets all turned in 1985 with the dollar crashing, commodities starting to rise and the stock market exploding. The fixed income specialists at Salomon Brothers were now in a bear market. Salomon had expanded right at the top in 1985. They had increased their staff by 40%. So as it was, PhiBro’s turn at the 1981 turning point, it was now Salomon’s turn with the 1985 target.
Salomon Brothers was the powerhouse of Wall Street banking – the bond dealer extraordinaire. It was founded by three brothers: Arthur, Herbert and Percy Salomon. The brothers began with $5,000, and some help from their father’s (a broker himself) clerk, and opened their first money brokerage office on Broadway near Wall Street. They made their fortune selling US debt during World War I. Unlike Goldman Sachs, Salomon Brothers were conservative and weathered the Great Depression rather well, avoiding getting caught up in all the speculation of a permanent new era.
Under the new leadership of the family’s next generation, William (Billy) Salomon, the firm expanded its operations in the 1960s, adding a research department, which included the infamous economist Henry Kaufman. They expanded into underwriting activities and block trading joining Lehman Brothers, Blythe, and Merril Lynch in the field of Investment Banking where they became known as the ‘Fearsome Foursome’.
John Gutfreund joined Salomon as a statistics trainee in the mid-1950s, and per request of Billy Salomon, Gutfreund became his golf partner. It was this friendship that allowed Gutfreund to quickly climb the corporate ladder at Salomon Brothers. He was named partner at the young age of 34, and then took over the firm at 49 becoming the CEO.
According to Michael Lewis’ Liar’s Poker, Gutfreund was known to tell his employees “a trader needs to wake up every morning ready to bite the ass of a bear.” The arrogance was astonishing. The power clearly went to their heads for the famous line from Lewis’s book that lives on, was what they called themselves – “big swinging dicks.” Yet the idea of creating first private mortgage backed security actually began there at Salomon Brothers during the 1980’s.
This was the era of the Bonfire of the Vanities, a 1987 novel by Tom Wolfe, which captured the decline in ethics and morals in New York City at the time. The competition between Goldman Sachs and Salomon Brothers was always there. Goldman was not part of the ‘Fearsome Foursome’ but was determined to break back into the center of the era.
When PhiBro and Salomon were joining at the hip, Goldman began looking around to follow in the footsteps of this merger. They too wanted commodity exposure and bought the trading house of J. Aron that was clearly a competitive move given the Salomon Brothers merger with Philips Brothers. J. Aron was an old commodity house that began in New Orleans in 1898; it moved to New York City in 1910, just in time for the commodity boom with World War I. The firm was named after Jack Aron, who was part of the Jewish community. J. Aron expanded into the metals trade during the late 1960s after gold became a free market in London and the official line was that there was now a two-tier pricing in gold as of 1968. During the 21.5 year commodity boom, J. Aron rose from a capitalization of less than $500,000 in the late 1960’s to $100 million by the peak in 1981. By the peak, J. Aron had become the largest trader in gold doing more volume in dollars than the biggest of any of the Dow stocks.
Being a commodity firm, J. Aron was actively trading currency futures that the
banks did not understand. They were the first to arbitrage the currency futures against the cash currency markets, for the commercial banks back then did not understand the markets, but had to provide that service to keep commercial clients.
Aron’s business in precious metals helped to bring in market-share. This is the beginning of gold lending. Banks holding gold would start to lend it to J. Aron at 0.5%. This business was starting to explode. After the 1980 Commodity Boom, everyone expected it to rebound and keep going. Oil hit $40 and gold $875. Everyone wanted to become a commodity trader for the Dow Jones had kept bouncing off 1,000 so why not go where the action was.
It was October 1981 when Goldman Sachs purchased J. Aron & Co. for $135 million. It was in fact on the top of the commodity market. Although they had bought the high, they were importing the commodity culture of trading that would in fact lead to the firm’s trading reputation. Its current head, Lloyd C. Blankfein, came from J. Aron and has now focused Goldman Sachs as a mean, lean, trading machine.
The competition between these two Jewish firms fueled Wall Street’s evolution. Leading up to 1980, Sidney Weinberg (1891-1969) at Goldman Sachs brought in his heir that perhaps began the desire to cultivate contacts within government. In 1968 Henry Fowler (1908-2000), former Secretary of Treasury, was recruited. It was Fowler who opened those political doors in a host of different nations, however it was Gus Levy (1910-1976) who was the aggressive one, pushing the firm into taxable bond dealing expanding from commercial paper. From 1969, Goldman Sachs now moved into the bond market.
Salomon Brothers was taking market share away from Goldman Sachs. The decision to get back into proprietary trading appears to have been from Steve Friedman and Robert Rubin to be competitive with Salomon. Goldman Sachs was still hesitant sitting, to a large extent, watching trading profits grow at Salomon, and that was the trend at Morgan Stanley, First Boston, and of course Merrill Lynch.
The October 1981 takeover by Goldman Sachs of J. Aron & Co. altered the culture within the firm. From that point onward, Goldman would also drift toward becoming a lean, mean, trading machine bent on proprietary trading.
The 1987 Crash hit Salomon Brothers where it hurt. Traders scalping markets never see the big changes in trend until it hits them in the face. Warren Buffett now enters the scene; Salomon turned to Warren Buffet to inject $700 million. Their traders lost big time. Buffet wrote in that year’s letter to his investors:
“By far our largest – and most publicized – investment in 1987 was a $700 million purchase of Salomon Inc. 9% preferred stock. This preferred is convertible after three years into Salomon common stock at $38 per share and, if not converted, will be redeemed ratably over five years beginning October 31, 1995. From most standpoints, this commitment fits into the medium-term fixed-income securities category. In addition, we have an interesting conversion possibility.”
That investment turned into a long relationship full of ups and downs, but it also saw Buffett turn into the commodity game of manipulation and wild trading. At first, he assumed it would be his typical classic Buffett play. Sunday, Sept. 27, 1987, Buffett met with John Gutfreund, then Salomon’s chairman and CEO, and agreed that Berkshire Hathaway would buy $700 million of Salomon convertible preferred stock, which equated to a 12% stake in the company. Buffett invested in what appeared to be a solid company with a good reputation that was getting its stock slapped around by a fearful market following 1987. Buffet would later say, “Be fearful when others are greedy; be greedy when others are fearful.”
Buffet quickly found himself in the midst of turbulent trading where he was not accustomed to really valuing speculative positions on a trading desk. Within weeks, Buffett was stunned by Salomon’s sudden surprise disclosure of a $70 million write-down from bad bets made by trading junk bonds. That hidden trading loss wiped out one-third of Mr. Buffett’s investment.
Salomon was not alone. Kidder Peabody also starting with the 1987 Crash was plagued by scandals, including insider-trading cases involving head of mergers Martin Siegel, head of arbitrage Richard Wigton (charges were later dropped) and trader Joseph Jett. While a judge originally found Mr. Jett not guilty of securities fraud, in 2004 the SEC reversed that decision and upheld the charges. In 1994, parent company General Electric sold Kidder to Paine Webber for $70 million.
This trading atmosphere of “big swinging dicks” had not learned its lesson from the 1987 Crash. This was the culture instilled by PhiBro from the commodity side of the world. Trader Paul Mozer, who had a 12-year career at the firm coming from Morgan Stanley, allegedly submitted illegal bids for U.S. treasury securities in August of 1990, attempting to corner the market by purchasing more than the 35% share allowed per individual transaction. Yet, what he eventually plead guilty to was based on only two transactions in the five-year notes on February 21, 1991 for $6 billion, which was $2 billion more than the bank was allowed to buy. The plea did not match the events.
Other Salomon employees would later tell the NY Times they were shocked:
“This was not driven by personal gain, if this is true. There’s a game here. And it was a desire to win the game.” Mozer’s supervisor, John Meriwether who started and blew up Long-Term Capital Management in 1998 requiring a Fed bailout his hedge fund with a position of nearly $100 billion. Meriwether, at the time in Salomon, claimed to have chastised Mozer for the manipulation when it came to his attention, but he did not fire Mozer raising serious questions about the trading culture overall inside Salomon Brothers.
Shortly before the Salomon Bros. scandal erupted, Paul W. Mozer must have been aware that the Treasury knew about the trade and there would be ramifications. Before the announcement by Salomon Brothers on August 9th, 1991, Mozer then sold about $1.7 million worth of Salomon stock, which was about 46,000 shares, confirmed by the firm. The government froze the funds for it smelled like insider trading in the real sense.
Salomon Brothers and Mr. Mozer’s lawyer said that Mr. Mozer had offered to reverse or rescind the sale. Salomon’s stock price sank sharply after the scandal was revealed. Mozer’s lawyer denied that any violation of insider trading laws had occurred. To this day, Paul Mozer is entirely omitted from Wikipedia – very strange – and it tends to suggest that he was by no means acting alone.
The President of the NY Federal Reserve at that time was NOT in the pocket of the bankers. The Fed sent a letter that was pointed and demanding. The letter was signed by an executive vice president of the bank, but it was clear, Edward Gerald Corrigan (born 1941), was pissed off and stood behind every word. Corrigan by then knew enough to become incensed by these schemes on his watch. The letter said that Salomon’s bidding “irregularities” called into question its “continuing business relationship” with the Fed and pronounced the Fed “deeply troubled” by the failure of Salomon’s management to make a timely disclosure of what it had learned about Mozer. Corrigan demanded a comprehensive report within ten days of all “irregularities, violations, and oversights” Salomon knew to have occurred. The real interesting factor that demonstrated the more-likely-than-not involvement of everyone right up to Gutfreund was the fact that Gutfreund failed to inform the Board of Directors, including Buffett, that the Fed had even sent such a letter.
John H. Gutfreund, Salomon’s chief executive; Thomas W. Strauss, the firm’s president; and John W. Meriwether, the vice chairman, were all forced to resign after Salomon disclosed it made a series of improper bids at several Treasury auctions. All three executives were told of Mr. Mozer’s illegal bids, but they waited months before relaying the information to the Treasury Department. It was at least plausible that this was just part of the “big swinging dicks” culture at Salomon where anything goes.
Paul Mozer, the alleged central figure in the Salomon Brothers Treasury bond scandal, first agreed to a plea deal on January 8th, 1993. Then the plea deal fell apart on January 12th, suggesting he was really unwilling to take the fall for everyone. Mozer finally pled guilty after being greatly reduced. He told U.S. District Judge Pierre N. Leval on Thursday, October 1st, 1993, that he made false statements to the U.S. Treasury and Federal Reserve Board investigators. Mozer faced a maximum of 10 years in prison and a $500,000 fine. Mozer then entered a cooperation agreement to rat on Wall Street, and what really went on in Salomon Brothers resulting in the resignations. Mozer was sentenced to only 4 months of probation. At sentencing, his lawyer told the court that Mozer had provided extensive information about the practice of “illegal manipulation of the Treasury bond market that led to investigations of Salomon, Goldman Sachs, Daiwa Securities and several Japanese investors”. (see Assassociated Press December 14th, 1993)
Salomon Brothers was fined $290 million for this infraction. The firm was weakened by the scandal and August 18th, 1991, the U.S. Treasury first banned Salomon from bidding in government securities auctions. It was then that Warren Buffet appears again, offering to take the helm. The Treasury agreed and rescinded the ban. In the four hours of suspense between the two actions, Buffett struggled passionately to protect his investment for the firm, valued at $9 billion, which would have been out of business and most likely would have had to file immediately to file for bankruptcy. That action also seemed to reflect that Mozer was a fall guy, and the problem was the culture at the firm – not one individual. This is probably why there is no Wikipedia page on Mozer – very strange.
Salomon was deeply involved in the bond trading scandal from top to bottom. The firm was nearly forced to file for bankruptcy as clients fled based on the rumors the Treasury would shut them down. In order to protect his investment, Mr. Buffett went from being a passive investor to the Chairman of the firm. He found that every dollar of shareholder equity was supporting $37 of assets. That is even higher than the 30:1 leverage ratio at Lehman Brothers when it collapsed.
Mr. Buffett became Chairman of Salomon Brothers and ran the firm for nine months. He later claims that his time there was “far from fun” in a letter to investors in his Berkshire Hathaway holding company. However, Buffett was somehow converted to the culture. The first time his name was being bantered around associated with a silver manipulation was 1993. The CFTC walked into PhiBro and demanded to know who their client was. PhiBro refused to tell them and the CFTC ordered them to exit the position.
In 1997, Salomon was sold to Travelers for $9 billion. Yet strangely enough, the sigh of relief could be heard all the way from Mr. Buffett’s hometown of Omaha. His $700 million investment was now worth $1.7 billion, but the experience seemed to sour him on Wall Street deals. By 2001, he had exited his investment in the firm.
Buffett’s name was again bantered around 1997 with regard to silver. Once again, the player involved was PhiBro. People judge others by themselves. As a result, the NY crowd began to realize that I was always on the other side of the classic failures. Instead of considering that perhaps our model was better than what they could produce with all their machinations, they took the position that our firm was just too influential. I had testified before Congress in 1996 and we did have about half the equivalent of the US national debt under contract for corporate advisory. They translated that into influence and assumed their failures were my successes since 1987, and that was simply due to influence.
Based upon this view of influence, they desperately tried to get me to join the second silver manipulation with Buffet. I have written statements publicly that PhiBro’s brokers walked across the COMEX pit floor and showed my floor brokers Buffett’s orders and told me to join. They knew I would never trust these people, for how would I know I was not the patsy to buy and they would use another seller on the other side of the ring. I would never join them. Hence, PhiBro showed me the orders to convince me to join.
So why did PhiBro show me the orders? Yes, I was a big trader looking for the low in 1999. I would often go head to head with them for they traded on manipulation, and I traded by time and price.
In the movie, Barclay Lieb states that before he came to work for me, he called Goldman Sachs and they admitted that they had thought they could “crush” me, but usually I won. The Club was actually planning their manipulation earlier in the year. The cycles were NOT in their favor, so I took them on. They tried their best to manipulate the market but the Wall Street gods were not smiling that day. On April 3rd, 1997, it was I who crushed them – they lost – the floor went nuts. They said they never saw trading like that day. It was like stepping in the ring as a lightweight and knocking out Mike Tyson in one punch. You cannot manipulate against the trend. I proved that standing my ground that day. This was why they then gave up and wanted me to join. Perhaps that first attempt to manipulate silver sent them to solicit Warren Buffett to take me on since in the end, he spent $1 billion to buy silver for that move.
After PhiBro showed me the orders, I then reported to our clients “they are back”, knowing it was Buffet and PhiBro for a second time. They were pissed off at me even though I never mentioned names. The buying of silver was done in London. Therefore, they moved silver out of COMEX warehouses in USA, and shipped them to London to pretend there was a shortage to justify the manipulation. The Wall Street Journal assisted in the rally.
The manipulators with steering the Buffet buying in London to avoid the 1993 problem with the CFTC. This is why AIG trading arm also set up in London.
Buying silver in London justified moving it from the NY COMEX and this allowed them to get the manipulation going. COMEX supplies were reported in isolation. Moving the silver to London created the false image of a shortage to justify the higher prices. The Wall Street Journal was used to plant the story. On September 30th, 1997, the stories played headlines: “Silver Prices Hit Six-Month High On Steadily Decline Reserves,” by PALLAVI GOGOI AP-Dow Jones news service updated September 30th, 1997, 12:01 a.m. ET, New York; “Silver futures surged to a six-month high at the COMEX division of the New York Mercantile Exchange, a move analysts said was triggered by steadily declining warehouse stocks…The rally was boosted by preplaced purchase orders around the $5-per-ounce level…”.
This was the news created for manipulation that was constantly played out in the newspapers. The Wall Street Journal reported again on November 17, 1997: “Silver Future Prices Leap On Hints of Tight Supplies”. On December 4, 1997 the Wall Street Journal from London reported: “Silver Surges on Strength In Supply-Demand Status” By Neil Behrmann; Special to The Wall Street Journal updated December 5, 1997 12:01 a.m. ET LONDON — “Gold may be in the doghouse, but silver is soaring like a bird”. The reporting of shortages continued to fuel the rally. The Wall Street Journal reported again December 24, 1997 for the manipulators: “Silver Futures Advance As Inventories Plunge”.
We kept track of what the “club” was doing and warned our clients whenever their antics were conflicting. One of the big ones that blew the lid off was again silver. In 1997, I warned that silver was going to rise from $4 to $7 between September and January 1998. I was even invited to join them; I told to stop fighting and putting out false forecasts. I declined. Their strategy became insane.
At first, a friend of mine who had been Prime Minister Thatcher’s economic adviser became a board member of AIG in London – Alan Walters. He called one day and asked if he could drop in to Princeton the next morning when he arrived from London. I naturally said, “OK”. To my surprise, he arrived with the head trader from AIG London who then proceeded to try to convince me to stop talking about the manipulations. I told him I would never reveal any names, and the government didn’t care anyway.
Things got insane thereafter. An analyst on the payroll of PhiBro had a main contact at the Wall Street Journal. They decided to slander me and get the press to target me claiming I was trying to manipulate the market. It was an interesting strategy, but one I cared nothing about since I was primarily an institutional and corporate adviser, and they were not really interested in silver.
The journalist from the Wall Street Journal called me. He accused me of this nonsense and we argued. It got quite heated. He said if silver was being manipulated, then I should give him the name. I told him he would not believe me anyway. He demanded the name and so I said fine, go ahead, let me see you print it, knowing he never would. The name I gave him was Warren Buffett. He laughed and told me everyone knew Buffett did not trade commodities; I told him that was how much he knew.
The Wall Street Journal published the article. The London newspapers were fed stories by “the club” that I was now the largest silver trader in the world. This became all a joke to me. Even the CFTC could look at positions and knew I was not a big player in silver on that move.
The mistake made by “the club” by turning out the press against me, was they actually created such a worldwide story that the CFTC was forced to call me. They knew I was not the source. They asked me, where was the manipulation taking place? I told them it was in London, out of their jurisdiction. They told me that they could pick up the phone and find out. I told them that they had to make that clear decision. I hung up. Never did I expect that they would really do anything.
A few hours later, my phone rang. It was a good source in London, who also was helping to monitor “the club” actions. He told me that the Bank of England had called an immediate meeting of all silver brokers in London in the morning. I was shocked. The CFTC had made the call, but then again, I had given them no names so perhaps in their mind, this was fair game.
Within the hour, Warren Buffett made a press announcement. He admitted he had purchased $1 billion worth of silver in London. He denied that he was manipulating the market, claiming the silver was a long-term investment. Everyone was shocked that Buffett was suddenly exposed as a commodity trader after all, the next day the Wall Street Journal called me. The writer asked – “How did you know?” I told him it was my job to know! Silver thereafter declined and made new lows going into 1999. So much for the long-term investment.
The time line of this head-to-head confrontation was AFTER the Treasury Scandal of 1991. Clearly, Buffett developed some relationship with PhiBro. In 1993, Phibro Energy, Inc. became the Phibro Energy Division of Salomon Inc. It was renamed to simply “Phibro” in 1996, and in 1997 Salomon was acquired by Travelers Group, which then merged with Citicorp to form Citigroup in 1998. With the merger, Salomon became an indirect, wholly owned subsidiary of Citigroup. So obviously, the silver play was in the fall of 1997.
Phibro came to the notice of the general public only when its leader, Andrew J. Hall reportedly was seeking a $100 million bonus from Citigroup, which had been bailed out by U.S taxpayers in 2009. Reportedly, Phibro was the main source of the $2 billion in pretax revenue Citigroup received in commodities trading. Hall’s position was rather clear. He had nothing to do with the mortgage backed security debacle.
In October 2009, Occidental Petroleum announced it would acquire Phibro from Citigroup, estimating its net investment at approximately $250 million. Phibro is now part of Oxy’s “Midstream, marketing and other segment”, which includes Oxy’s gas plant, pipelines, marketing, trading, and power generation operations. Hall continues to run Phibro and heads Astenbeck Capital Management, of which 80% is owned by Hall and 20% by Occidental.
The repeal of Glass-Steagall Act, also known as the Banking Act of 1933 (48 Stat. 162), was to prevent the very thing that Goldman Sachs was involved in during the Great Depression. The stock in Goldman Sachs Trading Company crashed more than anything falling from $326 to $1.75, it was intended to prohibit commercial banks from engaging in the investment business. It was enacted as an emergency response to the failure of nearly 5,000 banks during the Great Depression. The accusations that Goldman Sachs had engaged in share price manipulation and insider trading contributed to the firm becoming the target of jokes in Vaudeville.
Stephen Friedman and Robert Rubin took over the role of managing Fixed Income where they planned to expand into proprietary trading.
Stephen Friedman and Robert Rubin took over the role of managing fixed income where they planned to expand into proprietary trading. Goldman Sachs moved into quantitative analysis in the late 1970s, relying still on academics. It was Freidman and Rubin who changed the culture creating the trading profit bonus and starting in 1986, Goldman Sachs began to take talent from Salomon offering a huge bonus structure and adopting the trading mentality it now acquired from J. Aron & Co.
In 1986, Goldman Sachs hired Fischer Black of Black–Scholes, famous for valuing
stock options. It was Rubin who brought in Black, and the problem they had was the newly embedded options within debt. However, the issue they did not understand, that they were now walking into, was there is a great language problem between traders and programmers. You MUST be good at both, or you are screwed.
Goldman Sachs, the most profitable firm in Wall Street history, moved its headquarters to a new 43-story skyscraper at 200 West St. in 2010 after almost three decades at 85 Broad St.
Stephen Friedman, former CEO of Goldman Sachs, resigned as Chair of the Federal Reserve Bank of New York on May 7, 2009 Friedman was criticized for apparently at least creating an unethical image of benefiting from his role as Chair of the New York Fed branch due to the federal government’s aid to Goldman Sachs in recent months. Amazingly, Friedman remained on the board of Goldman even as he was supposedly regulating Goldman. Like Hank Paulson Secretary of the Treasury, Friedman also applied for, and got, a conflict of interest waiver from the government. Who gives out such waivers is unknown and why they are not done openly in Congress is obvious. Friedman was also supposed to divest himself of his Goldman stock after Goldman became a bank holding company, but thanks to the waiver, he was allowed to go out and buy 52,000 additional shares in his old bank, leaving him $3 million richer. Being exempt from insider trading is a government benefit. Friedman’s eventual resignation announcement came within an hour of the government’s release of the 2009 stress tests for 19 U.S. financial institutions. It was effective immediately.
Goldman Sachs, the very firm who was the worst example from the Great Depression crash, led the charge against the trend to take over government. They installed Robert Rubin under Bill Clinton as Secretary of the Treasury. Ironically, the very firm that inspired Glass-Steagall seized control of Congress with political donations to get it overturned. This began once again the age of Transactional Banking.
Fractional Banking v Matched Funding
Banking has existed from the earliest of times and has taken many forms from safe deposit storage, money changers, merchants with the ability to move money internationally, to money lenders. Some people wrongly assume that they can eliminate the business cycle by eliminating fractional banking. They assume that it will be possible to match lenders and borrowers to maturity contracts. They do not comprehend that this is the line of thinking that always leads to authoritarianism, all the way to communism.
The problem that will emerge from this matching lenders and borrowers to a maturity contract is that the boom bust cycle will still exist. There will always be the perpetual rise and fall in asset values caused by other factors (including human nature), not the least will be changes in technology, no less civil unrest and war that can alter capital flows. History offers a catalogue of solutions. All we need to test such an idea is to open the books.
People assume the cause of the business cycle is the fractional banking issue, as if that were eliminated, then you would flat-line the business cycle creating utopia. Be very careful. This was the goal of Karl Marx as well. So the starting point is a basic question. Has fractional banking always existed? NO! Since the answer is no, then did the boom and bust cycle in banking exist even without fractional banking? The stark answer – YES.
In ancient times, there were financial panics without fractional banking as well. In Athens during 354BC, people borrowed money from the Temple unbeknownst to everyone else. They were speculating in real estate. The real estate market collapsed without fractional banking and then it exposed that the money was borrowed behind the curtain, so to speak, from the temple. Corrupt priests had all this money donated to Athena. She obvious was very frugal since she never seemed to go on a spending spree to buy shoes, owls, or spears. She wore a helmet so she didn’t need a hairdresser. So the priests could keep their hands out of the treasury. Oops – they were caught lending it out to their buddies for spare change. There was no fractional banking involved. They had the money and lent it to their buddies. The assets collapse because as always, the mood of people changes with the seasons.
Fast forward to the 17th century, we find the very same scheme played out by politicians. There was the collapse of Wisselbank in Amsterdam, where people had deposited their money and assumed the bank was strictly a safekeeping facility. They offered no loans and paid no interest. Little did they know, the government was using their deposits to fund their own trading.
The Wisselbank was founded in 1609. Upon first opening an account, a depositor paid a fee of ten guilders, three guilders, and three stuivers for each additional account. Two stuivers were paid for each transaction, excepting those of less than three hundred guilders, for which six stuivers were paid, in order to discourage the multiplicity of small transactions. A person who neglected to balance his account twice in the year forfeited 25 guilders. A person who ordered a transfer for more than what was upon his account, was obliged to pay three per cent for the sum overdrawn. The bank made further profit by selling foreign coin and bullion, which fell to it by the expiration of receipts, and by selling bank money at five percent and buying it at four percent. These sources of revenue were more than enough to pay for the wages of bank officers, and defraying the expense of management. (Adam Smith)
In 1602, the United East India Company (VOC) formed from six trading companies in the Netherlands, and granted a trade monopoly over the Indies. The bank was administered by a committee of city government officials concerned to keep its affairs secret. It initially operated on a deposit-only basis, but by 1657, it was allowing depositors to overdraw their accounts, and lending large sums to the Municipality of Amsterdam and the United East Indies Company (Dutch East India Company). Initially this was kept confidential, but it had become public knowledge by 1790. The City of Amsterdam took over direct control in 1791 as a bailout, before finally closing it in 1819.
There is plenty of history of banking BEFORE fractional banking. Sorry, but that did not stop banking panics nor did it stop the business cycle with the boom and bust events. The Tulip Bubble was not leveraged with fractional banking. No matter what, the boom and bust cycle is driven by human nature. We do have a tendency to change our minds about everything from fashion to money.
The idea that we can match lenders and borrowers sounds nice. However, that will not eliminate the cycle. I can find no instance of such a flat line except during a Dark Age where there was no banking, private ownership, or any real economy. Coinage during the period is rare and is typically confined to the region where it was struck demonstrating the lack of an economy or circulation due to trade.