Who Owns the Fed?
Have you heard? The Federal Reserve System raked in profits of $79.3 billion last year, almost triple what runner-up ExxonMobil made. The Fed’s business model is a snap—just print money—and unlike poor beleaguered Exxon, the Fed has no competition to worry about. This means a gigantic windfall for the big banks because, although they don’t like to admit it, they actually own the Fed.
Or not. These are all half-truths and distortions, all too easy to find on the Internet. Bloggers like to begin with the discovery that commercial banks hold shares of Fed stock and those shares pay an annual dividend. A further discovery that the Fed makes big profits is all it takes to send some of them off on a conspiracy tangent. Because shareholders in a profit-seeking corporation are its owners, so it must be with the Fed, they think. Profiteering, world-government schemes, and who knows what else, must surely follow. As I will show, these half-baked ideas are distractions from the serious issues that surround the Federal Reserve System.
Yes, commercial banks hold shares of stock in their local Federal Reserve branch, but these shares do not confer ownership in any meaningful sense. Ownership is defined as the legal and moral right to use and dispose of some asset. Ownership can be conditional or temporary, as when you lease an apartment and acquire the right to occupy it for a limited time, but not to run a business in it or do major renovations. Your purchase of shares of stock in a public corporation gives you rights to vote in shareholder elections, receive any dividends declared, and sell your shares—but that’s about all. You may not walk into the corporate offices and start giving orders; on the other hand, you may not be held liable for any misdeeds of corporate officers or employees. If you acquire shares in a nonpublic company like Facebook, you accept additional restrictions on when and to whom you may sell your shares.
Member banks receive a fixed 6 percent annual dividend on their Fed stock and enjoy limited voting rights. But there the resemblance to ordinary shares ends. The banks are obliged to acquire shares when they become members of the Fed, and they may not sell their shares or pledge them as collateral. An initial issue of stock was seen as a good way to capitalize the Fed when it began, but there has been no need for additional capital and those shares are no longer significant.
Each branch has a board of directors with six members elected by local member banks and three appointed by the central board of governors. However, board members are not all bankers. Moreover, under a rule recently enacted by Congress, only nonbankers may serve on committees that select Fed bank presidents. This new rule is one way in which the ground has been shifting under the Fed recently; more about this below.
In the beginning the Fed was quite decentralized. A dollar bill in my wallet is imprinted “Federal Reserve Bank of San Francisco,” a remnant of the formerly dispersed power. The headquarters operation was initially a modest one, operating out of an office in the Treasury Department, but it now has its own imposing building, greatly expanded powers, and a correspondingly larger staff. With so much power now centralized, the branches engage mainly in monitoring local conditions and passing recommendations up to the board of governors. They have also become known for differing interests and points of view. The St. Louis Fed, for example, has an excellent collection of data available to the public. The Cleveland Fed is known for innovative research.
The Fed is a nonprofit institution, but that designation means only that profits are not its primary mission. The Red Cross is also a nonprofit, and like the Fed, it does earn a profit during any year in which gross income exceeds expenses. From an accounting point of view, such profits are essentially the same as those earned by firms in competitive markets, but not from an economic point of view. Competitive profits serve the vital function of directing scarce capital resources to the most urgent unmet demands of consumers. The Fed’s profits serve no such function.
Its income consists primarily of interest earned on its securities portfolio. Until recently the portfolio was made up almost entirely of Treasury securities. It has expanded greatly since 2008 to include mortgage-backed securities, loans to such pillars of the financial system as Harley-Davidson, and other assets including direct real-estate holdings. It incurs operating expenses of the usual sort: salaries, buildings, supplies, and more.
Remember that $79.3 billion profit? The 2010 figure, far higher than the $47.4 billion recorded for 2009, did not benefit the Fed’s managers or member bank shareholders because the money was remitted to the Treasury. That’s the law. It happens every year. If any private firm earned that much in a year it would be headline news and a boon to stockholders. For the Fed this is just an interesting statistic.
Who Calls the Tune?
The answer to the question “Who owns the Fed?” is that it’s the wrong question. Instead, we should ask: Who calls the Fed’s tune? That’s not such an easy question, yet it’s the only way to reach an understanding of why the Fed acts as it does and why it has done so much economic damage.
First and foremost, the Fed was created by Congress and can be modified or abolished by Congress. Clearly Congress is the Fed’s most important constituent.
The U.S. president also holds substantial sway over the Fed. He appoints the seven-member board of governors subject to Senate confirmation. The powerful Open Market Committee, which makes monetary policy decisions, consists of those seven plus the president of the New York Fed and four seats that are rotated among the 11 regional presidents.
But even though it exercises ultimate control, Congress has given the Fed a degree of independence that no other federal agency enjoys. Although its profits are swept back to the Treasury, the Fed enjoys a sweet deal that is unavailable to ordinary Federal agencies, which must plead with Congress for an annual appropriation. The Fed spends whatever it wants on operations, constrained only by the necessity to keep up appearances—not to look like fat-cat bankers. Its profit is whatever remains after all expenses have been paid, and, in contrast to ordinary corporate accounting, after dividends have been paid.
The Fed’s vaunted independence is a good thing, the thinking goes, because we don’t want the stewards of our money to be caught up in the swirl of day-to-day politics. But independence trades off against accountability. After all, in a democracy the bureaucracies are supposed to be accountable to Congress. The purse strings are the primary means of accountability among the other agencies, but there are no such strings tying Congress to the Fed.
Such control as commercial banks exert is not so much a function of their nominal stockholdings as it is of their connections through the network of good ol’ boys that weaves through government and “private” financial institutions. The Fed surely looks out for the interests of major private institutions, especially big banks, insurance companies, and securities firms. It does not want big-bank failures or a stock-market crash. It must be cognizant of foreigners who hold $3 trillion in U.S. Treasury debt and are keenly aware of the Fed’s actions and pronouncements.
These incentives have little to do with the Fed’s official dual mandate: stable prices and high employment. That mandate was established by the Employment Act of 1946 and the Humphrey-Hawkins act of 1978. These were times when no one questioned the Keynesian idea that inflation and unemployment always trade off against each other (the Phillips curve) and that monetary and fiscal policy must steer a course between two extremes. If the proponents of the mandate could see the relatively stable prices of recent years coupled with high unemployment, they would call for major Fed “easing.” If they then found out how much easing we have already had and the consequent monstrous increases in debt, they would surely be speechless.
Swift Changes
Some congressmen are calling for reassessing the dual mandate. This is just one way in which things are changing fast for the Fed. This once-staid institution is under increasing attack and is finding it necessary to defend itself, as when Chairman Ben Bernanke came out of his cloister to appear on 60 Minutes, a decision he may regret given the reaction to his astonishing claim that further “quantitative easing” will not increase the money supply.
New rooms are being added to the Fed mansion even as the sand shifts under it. Congress has given it extensive new powers unrelated to monetary policy, most notably a new consumer protection agency. The idea is that the Fed’s independence will ward off regulatory capture, something that always seems to happen to ordinary regulatory agencies. We shall see.
Rep. Ron Paul is the Fed’s most prominent critic. Last year his bill to require an audit of the Fed garnered a great many cosigners in the House. He reintroduced it at the start of the 2011 session, this time with his son Rand Paul on hand in the Senate to file the same bill there.
But in some ways the Fed is already quite transparent. Its website has extensive reports, updated regularly and more detailed than any releases from commercial banks or private corporations. And while deliberations of the powerful Open Market Committee are secret, detailed minutes are now made available shortly after each meeting.
In other ways it is quite secretive. For example, the Fed refused to disclose the names of banks that got loans during April and May 2008, denying Freedom of Information Act (FOIA) requests filed by Bloomberg and Fox News. Responding to lawsuits, the Fed did not claim it was a private institution and therefore exempt. Instead it cited potential harm to the banks that had borrowed, but the court sensibly ruled against a “test that permits an agency to deny disclosure because the agency thinks it best to do so. . . .” The information was released.
“End the Fed” has become a rallying cry for Ron Paul and his supporters. His little book by that name will not earn any academic awards, but as a mass-market polemic it does a good job of making his case without conspiracy theories or private-ownership sideshows. There is, however, room for honest debate about fractional-reserve banking, which he opposes.
About the Fed, though, Ron Paul is right. Whatever good intentions its managers may have, the Fed, like all central banks, exists ultimately as an enabler of ever bigger government. My colleague Jeffrey Rogers Hummel may be right when he says the Fed is becoming the central planner of the U.S. economy. But when we argue for replacing the Fed with market institutions, we must take the time and effort to get our facts straight and to expose the complex network of special interests that supports the Fed. Wrongheaded and simplistic arguments only hinder the cause.
Comment by D. Frank Robinson on 21 April 2011:
Is the Fed a rent-seeker enabler or is it not? Control is ownership regardless of legal fig leaves and legislative camouflage. An oligarchy controls the Fed.
A conspiracy is cooperative human action without regard to the values and intentions of the actors. A market is a ‘conspiracy’ open to the greatest possible number of actors.
Comment by D. Frank Robinson on 21 April 2011:
Is the Fed a rent-seeker enabler or is it not? Control is ownership regardless of legal fig leaves and legislative camouflage. An oligarchy controls the Fed.
A conspiracy is cooperative human action without regard to the values and intentions of the actors. A market is a ‘conspiracy’ open to the greatest possible number of actors. Austrian economics footnotes omitted.
Comment by D. Frank Robinson on 21 April 2011:
Please remove inadvertent duplicate post. Thank you.
Comment by Donnie Miller on 21 April 2011:
Good article. Thank you for the clear explanation.
Comment by Chucklehead on 22 April 2011:
Instead of answering the question of who owns the fed, you merely try to divert us into thinking it is not a valid question. If issuance of stock was only used for initial capitol infusion, why hasn’t the fed bought back its shares and stop paying a dividend at the expense of the Treasury? Why is the treasury borrowing money to pay commercial banks a 6% return. OK it is not the treasury paying the dividend, but if the fed didn’t pay the dividend, the treasury earnings from the fed would be that much higher and is the functional equivalent.
The fed has utterly failed in both stable prices and high employment. When it started, this country was the richest nation in the world, and thanks to its debasement of the currency and subsequent malinvestment, we are now the largest debtor nation in history.
This monster deserves to die quickly, before it can complete the destruction of enterprise.
To claim that no one questioned Keynes from 46’ to 78 shows historical ignorance, as does the claim that calls to end the fed are new.
I hope next time you write a column entitled Who Owns the Fed , that you actually answer the question. I can understand your fed-speak as an economist, but as an engineer, I expected better.
Comment by cainandtoddbenson on 22 April 2011:
My thoughts. “Who owns the Fed”. Ben Bernanke. Art, image.
http://cainandtoddbenson.wordpress.com/2010/12/15/who-owns-the-fed/
Comment by Warren Gibson on 22 April 2011:
Sorry you missed the thrust of the article, which was to outline the institutions whose influence dominates the Fed, as opposed to the technical question of stock ownership.
Yes, it’s an exaggeration to say no one questioned Keynes prior to 1978.
The 6% dividend is a bad deal for the Fed and indirectly for the Treasury, as you say. It will be a good deal when interest rates again rise above 6%.
I said the Fed “has done so much economic damage” and I would welcome its demise. I attempted to provide a well reasoned argument grounded in facts — the best way to further that goal.
Comment by Cainandtoddbenson on 23 April 2011:
By the way I think your bang on right Warren
Comment by cainandtoddbenson on 23 April 2011:
By the way I think your bang on right Warren.
Comment by cainandtoddbenson on 23 April 2011:
Sorry Warren for my triple posting. Just notice WordPress upgraded my site, so link changed. Hope you can clean it up maybe. My thoughts. “Who owns the Fed”. Ben Bernanke. Art, image.
http://cainandtoddbenson.com/2011/04/13/who-owns-the-fed/
Comment by Andrew du Boulay on 24 April 2011:
As the title of Warren Gibson’s article suggests, the US Federal Reserve Bank which has operated in America since 1914 under the common belief of being part of the US government, is in fact privately owned by a small group of banking dynasties. Both the name of the Act which created the Fed, and the name of the Bank itself, convey a message of Federal legitimacy and ownership. The fact that the central bank of America has the word ‘Federal’ in its title has misled the great mass of a nation ~ and for that matter the rest of the world ~ into thinking the Federal Reserve is part of the US Federal Government and therefore answerable and subservient to the US Congress and the people of the United States. That is not the case, and Gibson’s article highlights these important realities that most Americans have forgotten.
If we examine the assets of the major US banks and investment banks, there are six with market capitalisation above $1 trillion: Goldman Sachs Group Inc. (NYSE: GS), Morgan Stanley (NYSE: MS), JP Morgan Chase & Co. (NYSE: JPM), Citigroup Inc. (NYSE: C), Bank of America Corp. (NYSE: BAC) and Wells Fargo Co. (NYSE: WFC). The next largest bank with market capitalisation at about $300 billion is PNC Financial Services (NYSE: PNC). The six largest banks in America which share ownership* of the Federal Reserve are at least three to four times the size of their nearest competitor. Their position of dominance is guaranteed because they hold a monopoly on the supply of money to the US economy. Clearly the golden rule applies; he who holds the gold makes the rules. Or in the American case, whoever controls the supply of credit at 33 Liberty Street, controls Wall Street and therefore the United States. (*Barclays, a British bank, and USB, a Swiss bank, through their ownership of other US banks also share ownership of the Federal Reserve)
Comment by Ira Dernotsei on 4 May 2011:
Very good article, nicely balanced and refreshing.
However (there’s always a “but” to be added), whether by overall responsibility of the Fed, or because its true constituents are the banks, the Fed will always look out for the banks. Upon studying “Duration Mismatch” inherent to fractional reserve banking (which I like to call “fictional reserve banking”), it becomes obvious that once the Fed began down the path of easy lending, which was immensely profitable for its member banks, that path became terminal at a certain point at least a decade ago. It is becoming (or has become) impossible for the Fed to significantly raise rates or withdraw money from circulation.
Consider the premise of fractional reserve banking, that you lend out or invest more than your capital reserves. Of course, a central bank that can create capital reserves for the banks out of thin air might in appearance avoid this, but there’s not even the specter of appearance when you look over the FDIC guidelines, particularly the recent “stress tests” that ignored (full) second mortgage write-downs on the same collateral properties that had partial first mortgage devaluations. The illusion was further dispelled when you look at the Fed’s 1 April 2011 document release wherein the balance sheet expanded from $800B (March 2008) to close to $2T (November 2008) through expanded calls to the Discount Window, LONG TERM (180+ days of “overnight lending”) extensions to AIG, and the somewhat cloudy Commercial Lending Facility that somehow failed to identify the actual recipients of over $600B in capital injections (it doesn’t matter if the injections were used to purchase equities, the distressed equities were purchased from someone identifiable as too big to fail). Anyway, regardless of such injections, beyond that, banks lend out in quantity a ratio greater than its capital reserves, but in durations that also dwarf the duration of their deposits by significant ratios.
With FRB (“Fractional Reserve Banking”, not “Federal Reserve Board”), banks will always want to leverage to their utmost maximum in order to gain on the spread between the wholesale interest rate and the consumer lending rate). For example, if a bank has $1000 in deposits and lends at 1:4, it will have entries on its balance sheet in both columns for $5000 lent out ($4000 leveraged to $1000 in reserve). At 1:9, it could have as much as $10000 lent out. At the current Fed Discount Rate of 0.27%, with a consumer rate of 5-6% on long term mortgages, it stands to profit $597 in one year on the $1000 deposit through mortgage lending. With credit card lending, the profits become obscene because the same $1000 deposit creates between $2000 and $3000 in interest charges.
HOWEVER (there’s always a “but”), in addition to the risk of over-leveraging a demand deposit against a loan that could default, there’s the time disparity in which the demand deposit, or even a certificate of deposit carries a term of several years to as low as several days against a mortgage (the largest by dollar amount of any asset class) with a term of 20-30 years.
If the Fed were to raise its rates, the Treasuries would also rise, and the banks would have to compete with both in order to keep money from moving out of its demand deposits, in order to maintain even a skimpy ratio of capital reserves. It would have to sustain the losses or otherwise find a way to retain the capital deposits for not just days and weeks, but YEARS! Thus the banks would start losing money on the 20-30 year mortgages (again, the largest asset class), which would further deplete the banks’ capital reserves (and no doubt shut off the payment of shareholder dividends), thus eventually collapsing.
Thus, it’s quite easy to see that in spite all of the talk of monitoring the economy and making corresponding adjustments to the Fed Discount Rate, it’s all bluster, just as the 27 April 2011 OMC press release showed… The Fed will never again significantly raise interest rates, the course has become intractable, terminal, and eventually fatal to the Fed, the Banks, the Economy, and the country. Not to be too pessimistic,… it was fun while it lasted!
On a side note, the Fed pulling back in the money supply similarly constrains the fractional capitalization of financial institutions, so the Fed, in essence can no more tighten “after” the historic “easing”, and along with the ability to adjust the lending rate, it has also lost use of its only other mechanism, monetary policy. They might as well just pack up and go home, because at this point, it’s all just theater (I particularly enjoyed the “good cop – bad cop” act on 16 April, 2011 with the Kansas Fed “demanding” an increase. It no longer matters who owns the Fed, it’s on autopilot into the abyss, no turning back.
Comment by Libertarian jerry on 4 May 2011:
Good Article……From an historical prospective,it must be noted that without the Federal Reserve(and its interest collecting agency the IRS),there probably would have been no American involvement in the numerous wars of the last 100 years and that the New Deal and Great Society Welfare State programs would have been impossible.Also,overall,our money would have stayed sound and our Constitutional Rights would have remained in place. The damage done to the American people,by the Federal Reserve, is incalculable.
Comment by Benjamin on 9 May 2011:
You are so full of human excrement … the federal reserve is a privately held company that makes money off the citizenry of the United States of America. The federal reserve act of 1913 saw the beginning of the fleecing of America. Why are you writing articles like this?
Here’s what Woodrow Wilson said a couple years afer he signed the federal reserve act into law in 1913:
”I am a most unhappy man. I have unwittingly ruined my country. A great industrial nation is controlled by its system of credit. Our system of credit is concentrated. The growth of the nation, therefore, and all our activities are in the hands of a few men. We have come to be one of the worst ruled, one of the most completely controlled and dominated Governments in the civilized world no longer a Government by free opinion, no longer a Government by conviction and the vote of the majority, but a Government by the opinion and duress of a small group of dominant men.” – Woodrow Wilson
Comment by Edumacator on 9 May 2011:
I would love to know the backstory to the otherwise detestable former Congressman Alan Grayson’s grilling of Bernanke in a hearing a couple of years ago. I managed to see part of it while changing channels. Grayson was asking all manner of pointed questions, the Benster was appearing unruffled and above it all, but there was no denying the questioning was aggressive and pointed. The one question I remember most clearly was Grayson trying to find out who had bought several billion dollars of something we (ie, The Fed) were selling (treasuries?). Bernanke’s answer, after conferring with a colleague: “I don’t know.”
Grayson was astonished. For once I was on his side.
Comment by jsmith on 23 October 2011:
Yes Edumacator, I also saw a glimmer of hope in Grayson. If, only a few patriots that have not been bought by the banksters would only rise up and deliver this nation from the literal scum in Congress, if only. Time to wake up. It’s just plain too late. I’m shorting the US.
Comment by Joe Schmoe on 22 January 2012:
Re: Benjamin
“You are so full of human excrement … the federal reserve is a privately held company that makes money off the citizenry of the United States of America. The federal reserve act of 1913 saw the beginning of the fleecing of America. Why are you writing articles like this?”
Because making wild and factually incorrect claims just muddies the water and prevents real improvement from being made.
Comment by bodywithoutorgans on 24 January 2012:
Lets not forget that the bill which created the FED was passed on Christmas eve when the majority of Congress was already on holiday. The Republican Party was excluded from participating in the debate and were asked to vote on for a Bill that they never got to read. Saying the FED was created by Congress is technically true but the process was far from open. And we know that the actual Bill that was passed was written by Paul Warburg – a banker- and not by US politicians. Also, under your constitution, coining of currency is reserved solely for the Congress – so the FED is at least unconstitutional.