Tuesday, January 12, 2016

The Capital Interests and the Federal Government, Securitization, and Alexander Hamilton

In my last post, I discussed the role of the United States in the international financial crisis and how the financial crisis couldn't have possibly been caused by the separation of commercial and investment banking. In another post, I've attacked the idea that the United States is a democracy wherein the governance structure was built around the people. These are ideas usually pushed by those with certain political agendas, but such ideas aren't true. In reality, the governance structure of the United States is completely built around capital, especially finance capital.

So how did this come to be? After the Revolutionary War, there was a major issue regarding the level of centralization in the United States. During the Revolutionary War, many of the states had ran up debts to finance the war effort. In order to deal with these debts, Alexander Hamilton decided that it'd be a good idea for the federal government to assume all of these debts by issuing government bonds (most of which were known as Hamilton 6's for their 6% yield). In other words, the first securitization in American history occurred as an essential financing operation for dealing with the Revolutionary War debts. All of this was in the Funding Act of 1790.

In other words, Hamilton created an asset backed security (ABS) by issuing federal government bonds backed by the Revolutionary war debts in the US at a low price (high yield) and issuing these ABS, or government bonds in this case, at a lower yield--where they ended up trading close to par in merely a few years. The first financial intermediary in the United States involved in securitization was essentially the first central bank of the US: The First Bank of the United States.
Note: In order to pass the charter for the First Bank of the United States, Hamilton essentially bribed half of Congress to take up his scheme by making them shareholders in the First BUS.

So why did Hamilton do all this to pass the First BUS and the Funding Act of 1790? He did this because with only state securities and no federal securities, the allegiances of the local elites were to the state governments instead of the federal government. So Hamilton bought up the assets of the elites and issued new federal assets wherein the price of the assets they held went up, then used that procedure to reduce the debt servicing costs of everyone, and used the profits created by the First BUS to finance "internal improvements" (what we would call infrastructure and public works).

In other words, Hamilton used the capital interests of the United States to control the legislature, and created an entire financing mechanism to work for the American Empire (Hamilton's own words according to The Federalist Papers). So the entire idea of "big government" in the United States is nothing more but a representation of the interests of capital, especially finance capital. Hamilton used the method of securitization as a mechanism for finance capital to dominate and control the American political system.

From 1790 onwards, the entire American financial system has operated through asset-backed securities which were used to finance many projects including a larger rail network than the rest of the world combined. In the 19th century, there was even a repo market for railroad securities and other capital assets and this was called the "call money" market. Although the first securitization occurred under the federal government, that securitization occurred because of the capital interests. The capital interests, when they would find themselves short of capital, would use the federal government to supply the capital. In other words, the federal government was used by finance capital as a tool to leverage already existing private capital in order to construct a rail network that was larger than the rest of the world combined by 1860.

Since the removal of the charter for the First BUS and the Second BUS, finance capital has been securitizing debts and issuing capital assets up until 1933 (when the reasons for the Great Depression were horribly misunderstood by various leaders). In the case of railroad securities, much of the capital was subsidized by the federal government because of the capital interests of the United States. Simply put, the Panic of 1873 was very similar to the Panic of 2007-08.

So this brings us to the next question: if the federal government was a tool for the capital interests to run the country, why did the democratic ability to vote come into play in the power structure of the United States? As I've discussed in a previous post, inequality creates a supply-side shift that must be counterbalanced by a demand-side shift which can create instability in a developed economy. What essentially happens is that as inequality goes up, the demand necessary to buy goods produced falls and the only resolution is really to decrease inequality for a developed country. So if you have this problem, at some point it becomes necessary to find some way to transfer resources from the rich to the poor (which can take place in a variety of ways). Democracy allows for a check on the current power structure while allowing for larger institutional flexibility.

In the longer term, it is not in the capital interests to squeeze labor indefinitely because they run out of the ability to be able to produce goods that're consumed. Contrary to the Marx-based view that inequality must be resolved by a collapse of the old system and Revolution of some kind, power structures just adjust and power/prestige is transferred while still maintaining the underlying institutional basis. Basically, the capital interests (particularly finance capital) still runs the show.

In essence, the power of the federal government as we think of them today, the ability to finance its operations by issuing bonds, the ability to have a unified federal currency to keep track of payments, the ability to tax, and the ability to use the financial and economic system for geopolitical purposes really derives its power from the capital interests, particularly finance capital. Suffrage and free elections came into play as a way for institutions to be more flexible and allow the capital interests to maintain power.

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