Behind the $700 billion bailout

Recent reports of the $700,000,000,000,000,000,000,000,000 bailout of the U.S. banking system compels me to write a little (depending on what you think is "a little") about how finance works in the U.S. (Yes, I am aware that the actual number "only" has 12 digits in it.) Well, noticing how much I wrote it isn't a little, but it should provide you with an understanding of what that money is going to be used for.

If you go far enough back (18th century) you find the U.S. looked very much like a small country, because it was one. There was no central bank, every bank issued its own bank notes, each state might issue its own currency, etc.

The U.S. Civil War was was a debate over states rights, in which the Federal Government forcibly informed them that it had the final say over certain matters. Among these are fiscal policy and money.

At one time or another, the state of Nevada has wanted to issue a commemorative silver coin, but it has been unable to do so, specifically because the U.S. Constitution specifically forbids the states from coining money. Also, since states can't run deficits forever - and can't print money - states have to balance their books. The federal government does not have these restrictions, which is why the U.S. government constantly runs a deficit and prints money (or sells debt in the form of treasury bills and treasury notes, which is almost the same thing).

Upton Sinclair's famous book The Jungle (1907) showed that there were major deficiencies in inspection of food products. The "Pure Food and Drug Act" and other laws changed this. The occurrence of severe local depressions caused the "Federal Reserve Act" (1913) to establish a national bank so that now, the Federal government had the power to change what would be local depressions into national ones. In fact, the term depression was developed because it didn't sound as bad as panic, the former term. Now, politicians say recession because depression is too scary. I think they're starting to use the term "downturn" because now even "recession" makes them nervous!

The depression of (depending on whom you ask) 1929 or 1933 wasn't solved by President Franklin Delano Roosevelt's attempts to socialize the economy, it was solved when World War II reached America on December 8, 1941. (We declared war the day after Pearl Harbor.)

During the depression, a lot of people went to their bank to get their money out. Well, if you ever saw the bank run as shown in Its A Wonderful Life (which was actually a "Building and Loan" or what we would call a Savings and Loan or S&L today), a bank doesn't have the deposits in the vault, they've loaned out their depositors money. Before there was deposit insurance, if too many depositors show up, the bank closes its doors, and the banker tries to run out of town before the angry depositors lynch him. The bank is broke and the depositors who get there late probably won't get their money back.

Banks in the U.S. can be chartered either by a state government or by the Federal Government, this is indicated by the bank having the word "National" in its name or the abbreviation "N.A." for "National Association" (e.g. the full name of Bank of America is "Bank of America, National Trust and Savings Association" or "Bank of America, N.T.S.A."). Savings and Loans that are federally chartered have the word "Federal"; they do not have this word in their name if they are state chartered.) Banks that are state chartered do not have the word "National" in their name, e.g. the one-branch "Colfax National Bank" of Denver, Colorado, is chartered by a federal agency, while the twelve branch "Farmers and Merchants Bank of Long Beach, California," is a bank chartered by the Department of Banking and Finance of the State of California. Before the 1930s, outside of chartering banks at the Federal Level, the Federal government didn't really do much to protect depositors if their bank or S&L went broke. read more