A Blog of the Global Justice Movement

Wednesday, July 6, 2011

The Bank of North Dakota

As regular readers of this blog are aware, every once in a while we get a question that is easy to answer. Other times something pops up where we can use somebody else's work for a posting, rather than slave over a hot keyboard struggling to come up with a piece that won't make people say, "What is this, er, stuff?" Today we got lucky. We not only got an easy question, we can use somebody else's work (mostly) to answer.

Late yesterday Dr. Norman Kurland, president of the Center for Economic and Social Justice (CESJ) came into this office and asked if we had seen a broadcast out of Tehran, Iran, featuring an interview with Professor Rodney Shakespeare of London, England, on "Press TV," which appears to be an Iranian government sponsored and funded program. With Dr. Robert H. A. Ashford of the University of Syracuse Law School, Professor Shakespeare is the co-author of Binary Economics: The New Paradigm (1999), and appears to be the chief author of the "Wikipedia" article on binary economics.

Therein lies the tale.

We have a few issues with the content of the binary economics article, a concern shared by some of the Wikipedia editors (and which we'll do our best to rectify . . . just as soon as we get that case of round tuits we ordered a couple of decades ago). Today's issue has to do with Professor Shakespeare's (mis)understanding of money, credit, finance and, especially, banking.

During his "Press TV" interview, Professor Shakespeare made some statements regarding the debt crises that seem endemic everywhere, but claimed that, while America is generally lousing things up throughout the world, the government of one U.S. state, North Dakota, had avoided the debt problem by using its state-owned bank in accordance with what Professor Shakespeare claims are the principles of binary economics (a contention with which we disagree). This didn't sound right, so early this morning we sent the following e-mail to the bank:

Dear Sir(s):

In an interview on "Press TV" out of Tehran on July 4, 2011, Professor Rodney Shakespeare of London, England, asserted that the Bank of North Dakota creates money to lend to the state government at zero interest. This, in Professor Shakespeare's opinion, is why North Dakota is the only state in America without a deficit, thereby avoiding coming under what he terms the "bankers' occupation" that is allegedly taking over the country.

I can find no evidence on your website to support Professor Shakespeare's claim. I would be surprised if I did, as this would violate Article 1, Section 10 of the United States Constitution that prohibits states from emitting bills of credit.

In case I missed something, however, let me ask specifically, Does the Bank of North Dakota create money to lend to the state government at no interest?

Thank you.


Blah, blah.

Listen. If you're thinking of doing business in North Dakota, go right ahead. Not even bankers keep "banker's hours," if the speed of the response is any indication of their get-up-and-go. (This writer is favorably inclined to North Dakota anyway, since an old Mensa friend lives in Valley City and has always published every article submitted to her various newsletters.) Anyway, the answer was fast and right to the point.  With names omitted to protect the innocent, here it is:

"The answer is no. We are a normal financial institution that is held to normal accounting practices."

That's the story in brief. You know, however, that we can never be brief. Besides, the Bank of North Dakota is, frankly, fascinating, and should probably be better known. Had we known about the institution when submitting our "bids" for entries in Mesa Verde Publishing's Encyclopedia of Politics in the American West (planned for 2013), we might have suggested a dedicated entry. As it is, we got the entry on banking, and we should be able to squeeze in mention without exceeding the word length. Not like this blog.

First, some general background on money, credit, finance and banking. You've seen this stuff before on this blog, so we'll just quickly review. First, all of our readers are aware that we base our understanding of money on the "Banking Principle," that is, "money" is anything that can be used to settle a debt. Thus, all money is, in a sense, a contract, and all contracts are money.  This is best stated in "Say's Law of Markets," and applied in the "real bills doctrine."

Bills of exchange are the oldest form of money, dating back thousands of years before the appearance of coined money, the latter being most convenient form of currency until banknotes became widespread in the 17th century (and checks in the mid-20th, followed by credit cards). Again, in a sense, all money consists of bills of exchange, even "barter money," for a bill of exchange is nothing more than a contract by means of which a property right is conveyed and a debt is settled — and a contract can take any form by means of which there is a "meeting of the minds," even the spoken word or a handshake. A "bill of credit" is simply the "constitutional term" for a bill of exchange, that is, a bill of exchange drawn by a government.

Bills of exchange can either be "sold" to a bank, or used directly as money. As late as 2008, private sector bills of exchange made up approximately 60% of all transactions in the U.S. This is down from an estimated 80% in 1916, and at least 95% in the 1830s, according to Congressman George Tucker in The Theory of Money and Banks Investigated (1839).

There are two types of bills of exchange. There are "mortgages," which are bills backed by and conveying property in the present value of specific marketable goods and services (usually goods), and bills of exchange proper, backed by the general creditworthiness of the drawer and conveying property in the present value of future marketable goods and services. There are, of course, all kinds of different forms of these two types of instruments, such as promissory notes, checks, drafts, letters of credit, and so on, that we don't need to get in to here.

There are also two types of bank: the "bank of deposit" and the "bank of issue." Banks of deposit are defined as financial institutions that take deposits and make loans. Thus, a bank of deposit can only make loans to the amount of its capitalization and deposits, less required reserves. The most common types of banks of deposit are investment banks, credit unions and savings and loans.

Banks of issue are defined as financial institutions that take deposits, make loans, and issue promissory notes. A bank of issue can, of course, make loans out of its capitalization and deposits — but that is not its chief function. Banks of issue are by far the older type of bank, filling an essential economic function by converting different forms of money into other, more usable or acceptable forms. The most common type of bank of issue today (once also called a "bank of circulation"), is the commercial or mercantile bank.

Banks of issue don't create money. People or businesses create money by drawing bills — creating contracts — on the present value of an existing or future marketable good or service that they promise to deliver to the holder in due course on a specified date or on the occurrence of some specified event. A bank of issue exchanges this individual and particular promise for a bank-issued promissory note backed by the general creditworthiness of the bank, which is in turn backed by the creditworthiness of the original drawer of the bill, with collateral thrown in for insurance. The bank's promissory note can in turn be used to back small denomination promissory notes called "banknotes" (not too common since the British Bank Charter Act of 1844 and the U.S. National Bank Act of 1863), or (more usually) a demand deposit — a checking account. In this way (in theory, at least) the region served by a bank of issue will always have sufficient "money" available to finance all transactions that have a sound present value.

We'll omit a discussion on reserve requirements, convertibility, clearinghouse operations, and all the other stuff we've covered before in greater detail. We want to get to the Bank of North Dakota (and you have no idea how hard it is not to write "Bank of North America," which was Robert Morris's 1781 creation as the first U.S. central bank under the Articles of Confederation). Per the bank's website (did we mention how much we like it when somebody else does all the work for us on this blog?),

In the early 20th century, North Dakota's economy was based on agriculture. Problems with the in-state financial system inhibited buying and selling crops and financing farm operations. Grain dealers outside the state suppressed grain prices; farm suppliers increased their prices; and interest rates on farm loans climbed. By 1919, there was a demand for state ownership and control of marketing and credit agencies. In response, the state legislature established the Bank of North Dakota and the North Dakota Mill and Elevator Association.

If we can editorialize a bit, the philosophy of the Just Third Way is that the State should never do more than it is absolutely required to do, thereby avoiding "functional overload." The formation of a state-owned enterprise in this instance does appear to have been justified, but we still think that there was probably a better, private sector way to go about the business. (You knew we were going to say that.)

Fortunately, the Bank of North Dakota appears to adhere strictly to sound banking principles. It is not, as Professor Shakespeare asserted, a means whereby the state government issues interest-free money to itself by emitting bills of credit to finance the construction of infrastructure, thereby avoiding accountability to the citizens through the tax system and appropriations process. (We've commented before on Henry C. Adams's warnings about the dangers of that in his 1898 Public Debts: An Essay on the Science of Finance.) On the contrary, just as in the case of the original Federal Reserve Act of 1913 (the language was later deleted from the Federal Reserve Act), the Bank of North Dakota is charged with promoting industry, commerce and agriculture.  It is a member of the Federal Reserve, but the state insures deposits, not the FDIC.

While we object on philosophical grounds to state ownership of anything that can be privately owned, in this case there was at least no intention of establishing a State-owned monopoly. As the website clearly states, "It was never intended for BND [the Bank of North Dakota] to compete with or replace existing banks. Instead, Bank of North Dakota was created to partner with other financial institutions and assist them in meeting the needs of the citizens of North Dakota."

We're ambivalent about the transfer of bank profits to the state's General Fund, although recently earnings have been retained to increase the bank's lending capacity. On the one hand, if it's truly a public enterprise, then the citizens of the state have the right to those profits as dividends. Direct transfer of profits to the General Fund circumvents the tax system. On the other hand, it would probably cost more than it was worth to pay out the profits equally to all citizens (and what qualifies someone as a citizen?), and then turn around and tax the dividends to fund the operations of government. Until something like the Citizens Land Bank becomes a reality, the arrangement in North Dakota should be okay (we're sure they were waiting with bated breath to hear that), although not consistent with the Just Third Way.

Another quibble we have is that the bank provides funding to other commercial banks for consumer loans and makes student loans. We believe that all loans for consumption purposes (and, yes, education is consumption, not investment) should come out of existing accumulations of savings. A bank of issue should not be monetizing anything other than the present value of financially feasible capital that will repay itself by producing marketable goods and services — "future savings" — and doing so in a way that results in creating new owners out of people who previously lacked capital ownership.

The chief mission of the Bank of North Dakota, however, is and always was "to promote the development of agriculture, commerce and industry in North Dakota." Thus, in our opinion, the institution should have no trouble at all adapting to the situation that will prevail once we convince the powers-that-be in Washington (North Dakota's government already seems to have the right idea) to enact a Capital Homestead Act. Maybe the bank would even consider signing on to the Coalition for Capital Homesteading.

Maybe we'll ask them . . . once those round tuits get here.


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