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I made some important changes to my article, “The Federal Reserve and the War on Health Freedom.”

The Federal Reserve is a privately owned but partially government-controlled institution with the exclusive legal right to create money — an act called “counterfeiting” when anyone else does it and that would qualify anyone else for a prison sentence. In the original version of my article, however, I stated that the Fed “profits” from this activity. In actuality, it turns most of these profits back to the government. I have since revised that section to more accurately describe what happens — the creation of money transfers real wealth from the people who earned it to banks and politically favored corporations.

The new text of that section follows below.

Federal Reserve Inflation — Stealing From the Poor and Middle Class

Centuries ago, gold smiths began holding gold for people and giving them receipts of ownership so they could come back at any time and retrieve the gold. They found, however, that they could make far more profit if they gave out receipts for gold that did not exist. Only a few people at any given time would come back to redeem their receipts for gold, so no one would notice.

Any rational person would call this fraud. But this is what our banks do today, and we call it “fractional reserve banking.” Only today our banks are holding reserves of cash instead of gold and lending out more digital money than they have. The Federal Reserve, for its part, simply creates electronic money credits on a computer. The money comes out of nowhere as if by magic, and leaks into the economy.

How does that affect you and me? Simple. The more dollars there are chasing the same number of goods and services, the less and less our dollar is worth.

So if we have less wealth, where does the wealth go? After all, money is not wealth; it just purchases wealth. So where does the actual wealth — goods and services and control over productive capital — go?

The wealth simply gets shifted from the people who earned it to certain politically favored industries.

While the Federal Reserve is able to generate digital money out of thin air, it is required to turn most of the profit back to the government. For example, Fortune reported that the Fed made $52 billion in profits in 2009 but returned $46 billion back to the government, using $4.6 billion to shore up its own capital and paying out only $1.4 billion as dividends to its private owners. So the Federal Reserve itself does not significantly profit from the system.

The first to rake in large profits are the banks, because when the Federal Reserve pumps newly created money into their accounts, they are allowed to create ten-fold more. Moreover, by acting as a “lender of last resort,” the Fed stabilizes the entire institution of fractional-reserve banking. Ordinarily, it would not be safe for banks to lend out ten times more money than they have, but if the Fed can be counted on to prop up the system, banks can make huge profits without the natural risk such fraudulent business would otherwise entail.

The other major profiteers are the corporations favored by the government and the Federal Reserve who get to use the money first. If Congress borrows money from the Federal Reserve to pay for the cholesterol-lowering statin drugs included in the prescription drug plan passed a few years ago, then those pharmaceutical companies get to spend the money first while it still has all its present value. Then, as the money slowly trickles through the economy eventually making its way into your paycheck, it loses its value.

So wealth is transferred from people who earn it to banks, corporations with government contracts, and corporations that conduct transactions directly with the Federal Reserve.

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  1. Dude, I love your blog.

    But it's nice that you know more and write more about metabolism than you do about economy and finance. Before Gold smiths began holding gold, as you say, there were bankers in the city-states of Italy of the Renaissance, chiefly Venice, and that is when banks started to create money instead of just being vaults.

    Then you start mentioning inflation — but while there is indeed more money being created, where do you see that overall prices actually go up, meaning your dollars are worth less?

    One of the main goals of having an independent central bank is precisely to *avoid* inflation, and that's what they do. You have to have independent central banks to do that because in the short run it is irrational to not use monetary stimulus when you have slow growth, but if you do that then indeed you create a rise in prices and then the tool of monetary stimulus loses its efficiency.

    This is why central banks are independent, while still being delegated a State privilege. This privilege is not to print money (private banks do that much more), but to be the lender of last resort — the one that ensure that the banking system does not collapse because of a momentary panic.

    Another aspect of the independence of the Central Bank is that it is not allowed to lend money to the government, contrariwise to what you suggest. The Fed does not own T-Bonds. It lends money not to the government but to banks.

    Another incorrect statement you make is the idea that inflation would transfer money from the middle class to the corporations, when the opposite is actually true by any historical standards. In the US more than anywhere else, the middle class and the poors are heavily indebted. Inflation actually makes them richer, and transfer wealth from the banks and the ones with strong balance sheets.

    While your reasoning is wrong, though, your conclusion is not incorrect: a modern independent central bank, because it promotes price stability and fights inflation, actually transfers wealth from the workers to the equity holders. This is evident in GDP numbers throughout the Western world.

    Another point: private banks are who create the money. They're the one just writing something in their books anytime they lend you any money. They don't lend money they have. There even are global ratios as to the proportion of what they may lend vs what they're been lend. It's been that way for centuries, that's what banks do.

    The reason why this is not necessarily a bad thing is the same reason that monetary stimulus, when possible, can be efficient: because if you lend money you make the creation of wealth possible. This financial system (as opposed to a debt system in which banks only lend what they have) is the reason there can be entrepreneurs in the first place, rather than economy forever dominated by those who inherit their fortune.

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