The late social philosopher Rev. William Ferree divided this principle of subsidiarity into two parts. One, no higher organization may arrogate to itself a function which a lower organization can adequately perform. Two, no lower organization may usurp a higher one for its own particular purposes. In terms of "Justice-Based Management," subsidiarity refers to the delegation of decision-making power over a particular area of operation by those working directly in that area.
More simply put, subsidiarity does not mean that the State does whatever the individual cannot do for him- or herself, or that the individual must be free from any collective influence or demands of society. On the contrary, subsidiarity is an acknowledgement of humanity's political nature, a possibly unique combination of individual and social creature. Consistent with its political nature, humanity tends to live in consciously organized and structured groups that protect individual human rights. Aristotle used the example of the City-State — the polis, hence political. Human beings typically join together in free association — groups — to address those situations and tasks that individuals cannot handle alone and unaided, but without prejudice to individual rights, personal sovereignty, and human dignity.
The State's role is not to step in to provide individual or even group needs, mediately or immediately, but when confined to its proper role maintains and safeguards the institutional environment within which individuals and groups meet their own needs. The institutions themselves are designed and built by individuals coming together in free association, but maintained and safeguarded with the assistance of the State, which enforces the law through its monopoly on the instruments of coercion. In this understanding of subsidiarity, State assistance and direct government provision of individual goods is at best an expedient, to be tolerated when necessary, but which must be replaced as soon as possible with a properly restructured institutional environment so that people can once again take over responsibility for themselves and their dependents.
This correct understanding of the principle of subsidiarity was built into the original plan of the Federal Reserve System in 1913. Nor was this an accident. The financial and political history of the United States demonstrates a deep and abiding suspicion of concentrated power of any kind, but most especially of concentrated economic power. The role that a well-regulated commercial banking system necessarily plays in the economic development of a country, and thus the need for a centralized regulatory body independent of political forces has been widely — even wildly — misunderstood in the United States from colonial times down to the present day. The eagerness to dismantle the First and Second Banks of the United States, the structuring of the National Bank Act of 1864, the manner in which the financing of the American Civil War and the First World War were bungled, the virtual hijacking of the Federal Reserve to finance the New Deal and then the Second World War, the Employment Act of 1946, the Great Society, the current spate of bailouts and stimulus packages — the list seems virtually endless — all serve to illustrate how a vital economic and financial tool has been grossly misunderstood and therefore misused. That this has been to the detriment of the economic as well as political stability of the United States is obvious from the chaos that now plagues this country and the rest of the world.
Despite all the problems, however, subsidiarity has been a cornerstone of restoring the application of the natural moral law as found in the principles of the Banking School to the financial system and to the economy as a whole. We might even be tempted to call the principle of subsidiarity the philosophical basis of binary economics' reliance on "harmony" (social justice), the feedback principle that balances and restores participation and distribution within the economic system. Louis Kelso and Mortimer Adler called this the "principle of limitation." In accounting terms, the principle of subsidiarity is a necessary aspect of a sound system of internal control, as its application builds accountability into the system.
The need for a "decentralized central bank" was perceived early on, soon after the failure of the Second Bank of the United States in the 1830s. In what economic historian Joseph Dorfman described as presaging the Federal Reserve System, Congressman George Tucker in The Theory of Money and Banks Investigated (op. cit.), his in-depth study of money and banking in America, proposed a competitive system of national banks, rather than a single monolithic entity, regardless how many branches it might have. As he explained, "Whatever may be the benefits of a national bank, they would all seem to be increased by having more than one, except that the profits to the shareholders would be somewhat diminished." (Ibid., 328.)
Tucker listed three distinct advantages to be gained from such an arrangement. One, although the "power and influence [of having a single national bank with large capital] have been greatly overrated by popular jealousy and party antipathies, yet, as it is still honestly believed by a large mass of our citizens to be formidable, their fears are entitled to respect, and should be quieted if possible." (Ibid.) In a statement that many of today's politicians might find inconvenient or uncomfortable, Tucker reminded us that, "The feelings of a large portion of the people will never be disregarded by a wise and a just government, even when they are founded on prejudice." (Cf. Dicey, Lectures on the Relation Between Law and Public Opinion in England During the Nineteenth Century, op. cit.)
That is, every leader should respect the basic institutions and mores of the people — even (or especially) when they believe them to be wrong or contrary to nature. No law can be effective or have the desired result unless the people affected accept the law, both as a law and in the spirit that guided its enactment. Ultimately, people cannot be ruled for long by simple fiat; at some level they have to accept and support their own government. True governance consists not of ordering people about, but in leading them. Changing what Dicey called public opinion requires careful study and a deep understanding of the natural moral law discerned in human nature, and an ineradicable part of that nature. Then people must be educated to accept a desired change. After that, it becomes possible to take steps — most usually and most effectively by the people themselves acting in free association — to restructure the relevant institutions of the social order so that the desired behavior becomes not only preferred, but possible. This is the point of what Rev. William Ferree called "the act of social justice." (See William J. Ferree, S.M., Ph.D., The Act of Social Justice. Washington, DC: The Catholic University of America Press, 1943.)
Two, "the plan [of having a number of national banks] would secure to the public the benefit of competition in all those functions in which a national bank has any advantage over state banks; as in domestic exchange, in furnishing a more uniform currency; and in fiscal services to the government, both at home and abroad. Their profits, then, on the purchase of bills, and the sale of their own drafts, would not only be less than would be charged by the state banks, but at the lowest rates at which they could be afforded." (Tucker, op. cit., 328-329.)
Here, then, is a partial answer to Henry Simons's difficulty about vesting monopoly power over money and credit in a single central bank or even network of national banks controlled by a central monetary authority: establish a number of autonomous institutions filling the same role so that they necessarily compete as well as provide essential redundancy in the system. As Tucker concluded in his final advantage to having two or three national banks in place of one,
The two or three national banks would be salutary and effective checks on each other. We have seen that the state banks, whose excessive issues are so effectually controlled by a national bank, are also a reciprocal check on the latter; but their power could never be so great, both from defect of concert and unity of action, and for want of the important aid that would be afforded by the funds of the government. The national banks, thus equal in capital, in credit, and resources, in all parts of the union, would give the public the same security against the redundant issues that a single national bank has hitherto afforded against those of a state bank; and thus a further answer could be given to those who have objected to a national bank, that, while it restrained the operations of the state banks, it was unrestricted itself. (Ibid., 329.)Tucker's proposal was substantially different from the system of national banks established by Salmon P. Chase during the American Civil War. The most obvious difference, of course, is that the system established under the National Bank Act of 1864 was modeled on Sir Robert Peel's Bank Charter Act of 1844. Tucker's proposal clearly assumed that the primary purpose of a commercial bank — national or otherwise — was discounting bills. The orientation of the British Bank Charter Act and the American National Bank system, however, was completely past savings-based, as is clear from Bagehot's analysis of the financial markets in Lombard Street (1873). There was no acknowledgment of the need of the private sector for a money supply that could expand and contract as necessary to match the production of marketable goods and services in the economy, and linked directly to production through the institution of private property.
The dangers of concentrated control over money and credit became painfully evident with the Panic of 1907. In an effort to keep their power, a number of movers and shakers in the American financial and political world under the leadership of Senator Nelson W. Aldrich of Rhode Island met at Jekyll Island in Georgia in November of 1910. Although it has entered conspiracy lore and legend, the Jekyll Island meeting was ultimately ineffectual. As Moulton related the story,
The Aldrich bill, resulting from the investigations of the monetary commission, was presented to Congress in January, 1911. In brief, this bill provided for a new banking organization modeled rather closely after the central banking systems of Europe; but because of American opposition to centralization of power, particularly financial power, and because of the unfortunate experience in our early history in connection with the Second Bank of the United States, it was felt that a bill proposing the establishment of a central bank would have no change of becoming a law. Accordingly, resort was had to camouflage and it was proposed to establish a national reserve association, with headquarters in Washington and with branches in various leading financial centers throughout the land. The Aldrich bill met with extremely vigorous opposition, however, and there was at no time much chance of its enactment into law. While embodying many excellent features, it also had certain important defects; moreover, it looked suspiciously like "un-American centralization of power." With the return of the Democratic party to power in 1912 it was obvious that a new approach was essential. Eventually the Federal Reserve system, providing for democratic organization and decentralized control, was evolved. (Moulton, Financial Organization and the Economic System, op. cit., 344.)Interestingly enough, the Federal Reserve and the income tax, far from being the result of a hidden conspiracy, were due to the efforts of the Democratic Party to expose the machinations of people like J. P. Morgan, especially their responsibility for the Panic of 1907. In 1912, soon after the Democrats gained power, Congress authorized the formation of a committee to investigate concentration of control over money and credit. Under the direction of Congressman Arsène P. Pujo of Louisiana, the committee's investigations focused on problems seen in clearinghouse associations, the New York Stock Exchange, and — of course — the concentration of control of money and credit. Not surprisingly, the committee reported that,
Your committee is satisfied from the proofs submitted, even in the absence of data from the banks, that there is an established and well-defined identity and community of interest between a few leaders of finance, created and held together through stock ownership, interlocking directorates, partnership and join account transactions, and other forms of domination over banks, trust companies, railroads, and public-service and industrial corporations, which has resulted in great and rapidly growing concentration of the control of money and credit in the hands of these few men. (U.S. Congressional House Committee on Banking and Currency, Report of the Committee Appointed Pursuant to House Resolutions 429 and 504 to Investigate the Concentration of Control of Money and Credit, February 28, 1913, op. cit., 129.)Even with the general refusal of leaders in the financial services industry to cooperate, the Committee found sufficient evidence that there was collusion among a small group of financiers with the goal of controlling certain key industries. The report was used to generate popular support for the passage of the 16th amendment authorizing the income tax, the Clayton Antitrust Act, and the Federal Reserve Act. Louis Brandeis relied heavily on the findings of the Committee in his book, Other People's Money and How the Bankers Use It (1914).
Far from being the result of machinations by a hidden conspiracy, these measures were intended to break up the power exercised behind the scenes by a cabal headed by the participants in the Jekyll Island meeting. In light of the subsequent "hijacking" of the income tax and the Federal Reserve System it is easy to see why a number of people might conclude that a conspiracy was at work. Nevertheless, it is clear that the Federal Reserve Act and the income tax were the result of exposing what amounted to a conspiracy. These and other measures were actually steps taken to try and ensure that a small group controlling money and credit would never again be in a position to cause social and financial disruption on the scale of the Panic of 1907.
The design of the new Federal Reserve System therefore included provisions intended to break up the concentration of control over money and credit. The primary means of achieving this goal was the establishment of twelve autonomous Federal Reserve banks to function as regional development banks without being dependent on the public sector in Washington, DC, or the private sector in New York City.
The Crash of 1929 and the subsequent depression provided the opportunity and the means by which control over money and credit was once again concentrated, this time to an even greater degree than before the Panic of 1907. As Moulton commented, "In the years since 1929 the Federal Reserve system has undergone a considerable transformation, designed to strengthen the control of the central Reserve officials over the banking system." (Moulton, Financial Organization of the Economic System, op. cit., 407.) This development was directly contrary to one of the main problems that the Federal Reserve was designed to counter. As Moulton explained, "The original organization, in the interests of democratic control, had vested large powers in the Reserve banks themselves." (Ibid., 409.)
Thus, each Federal Reserve bank was empowered to engage in open market operations — primarily in privately issued securities, not government debt! — and to set their own discount rates as local conditions and prudence dictated. Consequently, because the financial center of the country was still New York City, the power and prestige of the governor of the Federal Reserve Bank of New York far exceeded that of the Board of Governors in Washington, DC. As Moulton explained,
The truth is that the Federal Reserve Bank of New York tended to dominate the policies of the system. The Governor of the New York bank not only virtually controlled open market activities, but it was he rather than the Washington officials who conducted negotiations and worked out cooperative plans with the central banks of other countries. (Ibid., 409-410.)It comes as no surprise that the first thing that the Federal Reserve officials in Washington did when they got the chance offered by Roosevelt's New Deal was to move to consolidate control over the system. The Board of Governors of the Federal Reserve therefore made five substantial and overreaching changes in the system that changed the whole nature of the central bank:
• Only the Board of Governors would have jurisdiction over all dealings and relationships between Federal Reserve banks and foreign banking institutions or their representatives.The original justification for the establishment of the Federal Reserve System was thereby overthrown. Moulton, evidently more astute than many of today's commentators and academics who continue to labor under the delusion that the Federal Reserve is an independent central bank, gave a somewhat acerbic analysis of these developments, which he clearly ascribed to the growth of fascism. As he commented:
• Regional Federal Reserve Banks were forbidden to engage in open market operations except as specifically prescribed by the newly established Open Market Committee in Washington, thereby taking away from the regional Federal Reserve banks the power, whatever its objective value or justification, to engage in what had become the principal tool for implementing monetary policy.
• Discount rates, despite a nominal control by the regional Federal Reserve banks, were to be set by the Board of Governors in Washington.
• The Board of Governors in Washington asserted a previously unheard-of right to withhold supplies of Federal Reserve Notes from any regional Federal Reserve bank and to refuse accommodation to any regional Federal Reserve bank when such a move was determined to be necessary to maintain sound credit conditions.
• The power to modify reserve requirements of commercial banks was taken away from the regional Federal Reserve banks and vested in the Board of Governors.
Under the new organization, as we have seen, the powers of the Board of Governors have been greatly expanded, thereby circumscribing the independence of action of the member banks; and at the same time the Board of Governors has been placed more definitely under political control. This is accomplished through that provision of the law which makes the governor of the Board removable at the will of the President.Details have changed, but the belief that complete control of the financial system is a proper function of the State has only increased, having become a virtual obsession in the 21st century. Proper application of the principle of subsidiarity, however, dictates that this situation not only should, but must be reversed. Consequently, the following reforms in the current operation of the Federal Reserve System should go a long way towards restoring the autonomy of the regional Federal Reserve banks and in breaking up the concentrated power that the Board of Governors in Washington, DC now exercises over the system. While there may be other measures developed as the proposal is refined, these should be sufficient to begin the process.
This shift is a reflection of the philosophy that not only is it a proper function of the Government to assume control over the entire credit system, but that only the Government can be depended upon to exercise such control in the interest of the public welfare as a whole. This conception appears to be the result of two factors — the failure of the former system of control to prevent financial crises, and the greatly increased importance of government fiscal and financial operations in the larger scheme of things. Whether the new alignment will be able to avoid the weaknesses disclosed in former periods of political control, time will demonstrate. (Ibid., 417.)
One, as regional development banks responsible for the regulation of money and credit within a specific district, each local Federal Reserve bank must have the power to negotiate directly with foreign central banks and their representatives. A mandatory 100% reserve requirement and prohibition against monetizing government deficits will, of course, greatly restrict the power that even the Board of Governors now enjoys with respect to foreign central banks with respect to dealing in foreign government securities and foreign currency exchange. Restoration of this provision may, therefore, be largely symbolic, but it is important nonetheless to emphasize regional autonomy under the principle of subsidiarity.
Two, each regional Federal Reserve bank must have the power to engage in open market operations within its district fully restored. The only change — effective for the system as a whole, and not to be construed as a punitive measure against the regional Federal Reserve banks — would be an absolute prohibition against dealing in any form of government securities, foreign or domestic, primary or secondary, local, state, or federal. Open market operations were only ever intended to supplement rediscounting of qualified industrial, commercial, and agricultural paper as the primary monetary tool of the Federal Reserve System. As a powerful tool directly affecting the market, and thus easily misused, open market operations must be restricted to the original intent of the institution.
Three, each regional Federal Reserve bank must have the power to set the discount rate in its own region. The discount rate is not an arbitrary figure set by the whatever the Board of Governors believes will have the desired effect on money and credit (and thus employment), but should logically be set at a level to cover the cost of creating new money and the cost of administering the system. Obviously this cannot be arbitrary, but determined by the actual costs in each region, which should differ, depending on local conditions.
Finally, four, the Board of Governors must not be permitted to withhold supplies of notes or, more importantly, refuse accommodation to any regional Federal Reserve bank, i.e., refuse to allow other regional Federal Reserve banks to rediscount paper from any other regional Federal Reserve bank. The ability of regional Federal Reserve banks to deal freely among themselves in direct response to the need for liquidity in a particular region is an important internal control mechanism to ensure parity of currency among the different regions and the country as a whole. It should be market-determined, not controlled by a central authority that may be influenced by political motives rather than by the needs of the private sector.
Restoring the autonomy of the regional Federal Reserve banks should, therefore, advance a sound reform of the central banking system in the United States. Consistent with the principle of subsidiarity, restoration of autonomy would make the creation of new money for qualified industrial, commercial, and agricultural investment a local affair rather than something to be decided by a centralized authority subject to over political influence.