Friday, June 12, 2009

EVEN MEXICO UNDERSTANDS THIS ...

In 1995 I co-wrote a journal article that compared the central banks of Germany and Mexico. While doing research I went to the Banco de Mexico - Mexico's central bank, which is located in Mexico City (pictured below) - to conduct a series of interviews.

Mexico's central bank, the Banco de Mexico, lies to the right of the Palace of Fine Arts (Bellas Artes).

One line during the series of interviews has stuck with me throughout the years.

The mandate of any central bank isn't tied to specific government programs. Her goal isn't economic growth. The only goal of a central bank is price stability ... there's nothing more.

This stuck with me because, apart from lying at the heart of what central banks are supposed to do, this quote illustrates what central bankers have always understood: Their fundamental goal is to protect the integrity of a nation's currency.

Anything else - like propping up industries or providing artificially cheap money to keep an economy going - runs the risk of undermining the integrity of nation's money and it's banking system. Well, guess what? We seem to be heading in this direction.

In this NY Times article it's clear that our central bank, the Federal Reserve, has gone beyond its duty of managing and protecting the value of our nation's currency.

Since March, when the Fed stepped in to fill the lending vacuum left by banks and Wall Street firms, officials have been dragged into murky battles over the creditworthiness of narrow-bore industries like motor homes, rental cars, snowmobiles, recreational boats and farm equipment — far removed from the central bank’s expertise.

Today, as the article points out, "executives and lobbyists now flock to the Fed, providing elaborate presentations on why their niche industry should be eligible for Fed financing or easier lending terms." In a few words, the guarantees and easy credit terms the Federal Reserve (pictured below) has been offering to the financial institutions that got us into our current economic mess are so attractive that other industries want in on the financial gravy train.


Going through the Federal Reserve instead of "private" banks is especially attractive because, as our financial institutions have learned, assistance from the Fed comes with virtually no congressional oversight.

This is why the nation's financial institutions are so anxious to return Congressional-backed bailout money. What they get from the Fed is effectively "under the radar" money. If they can draw loans and guarantees from the Federal Reserve they can pay out bonuses and offer wages with few restrictions (and, no, the Obama administration's "Wage Czar" will not help; it's a political gimmick). These dynamics, ultimately, will undermine the integrity of our money and our economy.

Even Mexico's central bankers understand the problems associated with this. How come ours don't?

- Mark

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