Wednesday, March 31, 2010

Own the Fed, Part XIV: Happy Days

While often viewed as the highpoint (and hidebound) pinnacle of "traditional" American culture and civilization, the 1950s were actually a time of revolutionary upheaval, politically, culturally, and, especially, economically. When we talk about the decade of the fifties as revolutionary, however, we are not referring to the "lost" or the "beat" generations. Vocal as they were, these were only a fringe element that did not define American life or culture.

The true revolution of the 1950s was the fundamental change in the attitudes of ordinary people. The presumed ideal of the nuclear family with two point whatever children, Father Knows Best, a wage system job as the primary source of family income, a car in every garage and a chicken in every pot, were, despite the common opinion, very recent innovations. This is especially true of the idea of a wage system job firmly ensconced within a monolithic capitalist economy as the sole source of income for the family.

Much of this sea change came out of the New Deal and had been formalized by the demands of the war. We may — if we wish or if we find it useful — denigrate the narrow-mindedness and so on that presumably characterized life in the 1950s. Such comments and the endless analyses of that time from that standpoint, however, always seem to miss the most revolutionary change of all: the switch from independence to dependence as the predominant condition of the "typical" American.

The basic problem was that the financial system and the economy were and remain essentially socialist — if we define socialism correctly as the abolition of private property in the means of production. As Karl Marx quite accurately pointed out in The Communist Manifesto, the communist revolution did not depend on abolishing private property for ordinary working people. Capitalism had already done that by concentrating ownership of the means of production in a small private elite and forcing the great mass of people into the wage system.

What the communists proposed was to establish justice by taking ownership of the means of production away from that small private elite, and concentrating ownership even further in the hands of the State. For most people, the United States in the 1950s, although it was called "capitalist," was to all intents and purposes socialist. There was and remains little difference between capitalism and socialism for the typical wage worker.

Whether capitalist, socialist, or some variation on those two themes, largely as a result of the New Deal and the reorientation of the Federal Reserve to conform to the tenets of the Currency School, virtually everyone now looked to the State to solve all problems. The McCarthy hearings were shocking not only for the methodology used, but the fact that, all things considered, both "capitalists" and "communists" used the same techniques, depending on who was able to seize power. The end justified the means, and the justice of the end was now determined by whoever managed to control the State.

This new orientation and understanding of the role of the State was demonstrated most graphically by the "Accord" reached under President Truman between the United States Treasury and the Federal Reserve System. This 1951 agreement ostensibly restored the independence of the Federal Reserve, but this — as required by the dictates of Keynesian monetary and fiscal policy — was independence in name only.

In addition to the essentially meaningless Accord between the Treasury and the Federal Reserve, however, a critical piece of legislation was passed to curtail certain abuses that continued to afflict the financial system. Bank holding companies were being used to circumvent prohibitions that had been implemented after the Panic of 1907 to prevent banks from owning non-banking businesses. There were also problems with bank holding companies acquiring banks and non-banking businesses across state lines.

To stop these abuses, Congress passed the Bank Holding Company Act of 1956 (12 U.S.C. § 1841, et seq.) to regulate bank holding companies. Bank holding companies had not been specified in previous legislation. Under the provisions of the new Act, the Federal Reserve Board of Governors now had to approve the establishment of any bank holding company. No bank holding company in one state could acquire a bank in another state. Bank holding companies were prohibited from engaging in virtually all non-banking activities, or from acquiring voting shares of certain types of non-bank businesses.

Despite the ineffectual nature of the Accord and the necessity of the Bank Holding Company Act, the basic system remained the same. While certain abuses might have been curtailed and the nominal independence of the Federal Reserve was presumably secure, nothing really changed for the average person. Perhaps helping to obscure the underlying problems with the economy and the financial system was the link established between the danger of foreign domination and socialism. The dangers of both were quite real and immediate. Many people, however, were apparently convinced that socialism and capitalism were somehow fundamentally different, and that "capitalism," "free market," "freedom," and "democracy" were somehow synonymous.

In 1958, however, Louis Kelso and Mortimer Adler published what may yet be recognized as one of the most genuinely revolutionary treatises of the 20th century, the misleadingly titled, The Capitalist Manifesto. The book's title as well as the subtitle were virtually guaranteed to appeal to newly dependent Americans of the 1950s given the widespread virtual obsession with communism and yet, at the same time, help shake them out of their complacency. As the subtitle expressed the purpose of the book, "A revolutionary plan for a capitalistic distribution of wealthy — to preserve our free society." [Emphasis in the original.]

By "capitalism," Kelso and Adler meant an economic system in which capital, not human labor, is the predominant factor of production, not the more accepted definition of an economic system characterized by ownership of the means of production concentrated in the hands of a relatively small private elite instead of in the State. The notion that the plan would preserve rather than restore the presumably free society of the United States was also somewhat problematical — but authors don't usually sell books or convince people of a course of action by insulting them. If Americans believed themselves to be free people instead of economic dependents of the State and central bank, then so be it . . . as long as they listened.

Somewhat surprisingly, many people did listen. The book became a best seller. As Kelso's ideas took hold and began to gain popularity (Adler described his contribution as tying Kelso's economic ideas in to the dignity of the human person exhibited in political democracy), prominent economists with a stake in the current system such as Paul Samuelson and Milton Friedman felt compelled to ridicule the proposals. Both Nobel Laureates, however, stopped there, and did not offer any substantive critiques of the Kelso ideas. They preferred to state dogmatically (Friedman's actual word choice) that they rejected what became known as "binary economics" without having to give reasons.

In this blog series we have discovered that Keynesians and Monetarists (as well as Austrians) base their economic theories on the tenets of the Currency School. It thus appears that the reason, e.g., Drs. Samuelson and Friedman refused to debate the issues was that they were not prepared to deal with or even understand a system based on the tenets of the Banking School, especially the real bills doctrine and Say's Law of Markets. They committed what amounts to the ultimate intellectual crime of judging another system not on the soundness of the principles of that other system, but on their own principles — in essence, blaming black for not being white, or vice versa. The popularity of this technique in nearly all fields of thought does not, however, lend it any degree of legitimacy. As G. K. Chesterton explains,

It is no good to tell an atheist that he is an atheist; or to charge a denier of immortality with the infamy of denying it; or to imagine that one can force an opponent to admit he is wrong, by proving that he is wrong on somebody else's principles, but not on his own. After the great example of St. Thomas, the principle stands, or ought always to have stood established; that we must either not argue with a man at all, or we must argue on his grounds and not ours. (The Dumb Ox, 95.)
This brings in how, exactly, the views of Friedman and Samuelson differ from those of Kelso with respect to the role of the central bank and, more broadly, that of the State itself. For both Keynesians and Monetarists the Federal Reserve System is, ultimately, a mere money machine for the federal government, generating funds through open market operations dealing in government securities. For an adherent of the Currency School, the central bank is not an institution designed and intended to provide the private sector with adequate liquidity by rediscounting commercial paper. The only issues that concern Keynesians, Monetarists, and Austrians are how best to operate that machine responsibly, and what principles are to guide the creation of new money so as — depending on your orientation — to increase, limit, or eliminate the power of the State.

Obviously the problem is that both Keynesians and Monetarists fail to address the real issue: the economic disenfranchisement of the ordinary person by the erection and maintenance of barriers to widespread ownership of the means of production. State control of the economy is a given, whether explicit as in Keynesianism, or implicit as in Monetarism and the Austrian schools. If any doubt remains on this point, ask a Keynesian, Monetarist, or Austrian how he or she defines 1) money and 2) private property, and how money and private property are linked, if at all.

For Kelso, private property — the chief support for human dignity — is the basis for any workable system, political or economic. Political and economic principles must be integrated consistently without distortion, with the goal of building political democracy on a solid foundation of economic democracy. Thus, respect for each individual's life, liberty, property and pursuit of happiness must not only be paid lip service, but be incorporated into the legal systems and institutional structures of society at all levels. Securing each person's natural rights and protecting them by ensuring democratic access to the means of acquiring and possessing private property in the means of production is, as Kelso and Adler claimed, a more effective counter to communism than government regulation or McCarthyism.

Presenting such ideas to Americans who had so recently been forced into a condition of dependency — wage slavery (not a Marxist, but an Aristotelian concept, as Adler explained) — was something of a problem. In The Capitalist Manifesto, Kelso and Adler make the moral, economic, and political case for widespread direct ownership of the means of production, thereby laying the groundwork for what the Center for Economic and Social Justice would distill as the four pillars of an economically just society:
1. Limited economic role for the State,

2. Free and open markets as the best means for determining just wages, just prices, and just profits,

3. Restoration of the rights of private property, especially in corporate equity, and (the "fatal omission" from both capitalism and socialism)

4. Widespread direct ownership of the means of production.
Kelso and Adler also dealt with another very serious problem. The economic disenfranchisement of the great mass of people noted by Grosscup early in the 20th century had advanced in tandem with a diminished understanding of private property and, of course, those institutions derived from private property, particularly money and credit, to say nothing of the control over one's own life that property confers. In March 1957, the year prior to the publication of The Capitalist Manifesto, Kelso published "Karl Marx: The Almost Capitalist" in the American Bar Association Journal. In part, the article targeted the wide misunderstanding of property and its importance in the political and economic order. In a few brief sentences Kelso detailed an understanding of property that all economists and lawyers should keep in mind when tempted to interfere with basic human rights to achieve some transitory or politically expedient good:
It may be helpful to take note of what the concept "property" means in law and economics. It is an aggregate of the rights, powers and privileges, recognized by the laws of the nation, which an individual may possess with respect to various objects. Property is not the object owned, but the sum total of the "rights" which an individual may "own" in such an object. These in general include the rights of (1) possessing, (2) excluding others, (3) disposing or transferring, (4) using, (5) enjoying the fruits, profits, product or increase, and (6) of destroying or injuring, if the owner so desires. In a civilized society, these rights are only as effective as the laws which provide for their enforcement. The English common law, adopted into the fabric of American law, recognizes that the rights of property are subject to the limitations that

(1) things owned may not be so used as to injure others or the property of others, and

(2) that they may not be used in ways contrary to the general welfare of the people as a whole. From this definition of private property, a purely functional and practical understanding of the nature of property becomes clear.

Property in everyday life, is the right of control.
The main problem facing Kelso was that, under the mercantilist assumptions of the Currency School — and keep in mind that the tenets of the Currency School are the cornerstone of all mainstream schools of economic thought, especially the dogmatic belief that capital formation can only be financed out of existing accumulations of savings — ownership of the means of production must be concentrated to finance new capital formation.

This "slavery" to existing accumulations of savings results necessarily in mainstream economics rejecting the real bills doctrine and Say's Law of Markets. This is true if for no other reason that both the real bills doctrine and Say's Law are built on the assumption that "money" is a derivative of the present value of existing or future marketable goods and services. This assumption (or, more accurately, an observation of reality) undermines the absolute dogmatism of the presumed necessity of existing accumulations of savings to finance new capital formation.

Eliminating our dependency on existing accumulations of savings as the source of financing new capital formation changes our understanding of the proper role of a central bank, especially the Federal Reserve System. In its original conception, the Federal Reserve, by its mandate to provide an elastic currency for qualified industrial, commercial, and agricultural investment, had the potential to provide every citizen with access (through the commercial banking system) to the means of acquiring and possessing private property in the means of production.

This power was gradually whittled away in response to demands of political expedience and the shift in mainstream economics away from the principles of the Banking School. The result is that the Federal Reserve has been transformed from the chief vehicle for managing a sound and stable currency for private sector development, into a means whereby the State is able to manipulate the currency for political ends and to implement fundamentally unsound economic policy in furtherance of those ends.

Emancipating humanity from the "slavery of savings" that had forced a condition of dependency on a people presumed to be the most free on earth was, ultimately, the point of Kelso's work. This inherent respect for the dignity of the human person is the reason why Adler found Kelso's ideas to be, in his opinion, one of the most important contributions to human thought in the 20th century.

Once the economic system has been freed from the slavery of savings — that is, the assumption that only existing accumulations of savings can be used to finance capital formation — the rest is relatively simple, although convincing policymakers of its rightness and utility would take another fifteen years. Even then, the "victory" was only partial. The system remains oriented in conformity with the principles of the Currency School, and academic economists and policymakers are still enslaved to past savings.

The mechanism Kelso invented to implement his theories was the "Employee Stock Ownership Plan," or "ESOP." Many people even today assume that Kelso first invented the ESOP, and then developed the theories that became known as binary economics to support his invention. This is incorrect. Kelso first developed the theories, then applied them more or less consistently.

The immediate question, of course, was how workers without savings and without existing ownership stakes could become part owners of the companies that employed them. As the bulk of production shifts to capital from labor, the market value of human labor (though, of course, not human beings) declines relative to capital. At that point, it becomes necessary to supplement and, in some cases replace labor income (wages/salaries) with ownership income (dividends/profits), just as Morrison observed in 1854. Without accumulated savings to use to purchase capital outright, or existing ownership of wealth to use as collateral, however, how can propertyless workers (and, eventually, everyone) become owners of capital?

The answer: through the application of the real bills doctrine and Say's Law of Markets. A company has a present value based on the anticipated future stream of profits to be generated by the production of marketable goods and services. Workers can purchase this present value on credit, and repay the acquisition loan out of future profits realized from the sale of marketable goods and services. The ESOP was designed to facilitate worker ownership on these terms.

Specifically, an ESOP is an expanded ownership mechanism "qualified" as a "defined contribution plan" under U.S. retirement law. That is, a participant in an ESOP is entitled to the value of his or her total vested benefit in the Plan, but nothing more. This is in contrast to a "defined benefit plan" in which a participant is entitled to a fixed ("defined") benefit whether or not the retirement trust has the funds. By its nature, an ESOP cannot go bankrupt, even if the sponsoring company goes under, where a standard defined benefit plan can go — and, in these days, frequently has gone — bankrupt, even driving the sponsoring company into bankruptcy due to underfunding of its pension liability.

The ESOP is a trust that can borrow on behalf of workers as a group to acquire ownership of the employer company, repayable with pre-tax profits or dividends. In current law, ESOPs can be either leveraged (designed to borrow to acquire company shares) or unleveraged (the shares are contributed by the employer). Typically an ESOP does not require workers to use their own savings or wages to acquire their shares, or to pledge their personal assets as collateral in a leveraged transaction.

In an ideal world, or at least a world in which the central bank had not been diverted into being the chief financing source for the State instead of the primary manager of the money supply for the private sector, a financing and ownership vehicle like the ESOP would have taken the world by storm immediately. As it was, it very nearly did, but it took a decade and a half to get the process started, and still remains today only a small start on the effort to make the economy run for the benefit of everyone, not just a select few.

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