"Wasn't the Federal Reserve Bank still in existence?"
"Yes, but the Federal Reserve was not, despite its title, a publicly owned bank. Nor was it a bank in the common use of the term. A private citizen couldn't borrow money from it nor place money in it. Only bankers could use it and they owned it. LaGuardia wanted to set up a real bank that would be owned by and used by the people. But the bankers fought him in every way. They controlled most of the newspapers, owned a good piece of the wealth in the country, and held mortgages of one sort or another on the rest. Their position was very strong in machine politics, too. So they set out to defeat him. And that got him angry. It appears from what we can find out that it was never safe to get the 'Little Flower' angry. He jammed his banking bill through by a combination of personality and intimidation and announced to the whole country that he was ready to lend money to all and sundry who might be refused credit at the private banks. You see the banks had created a panic and a wave of fear by calling loans and refusing to loan more money. LaGuardia restored confidence even before he was able to set up the machinery for handling a banking business. And by now LaGuardia was not willing to let things drop just by setting up his new bank. He had intended it primarily as a fiscal agent of the government to aid in the manifold financial dealings of the government with the citizens, started by Franklin Roosevelt. LaGuardia became determined to break the private bankers. He called in several students of finance and studied the theory of credit himself. He became convinced that ordinary commercial financing could be done for a service charge plus an insurance fee amounting to much less than the current rates of interest charged by banks, whose rates were based on supply and demand, treating money as a commodity rather than as a sovereign state's means of exchange. He proceeded to lend money on this theory. His cost accountants figured pretty accurately the service charge necessary and estimates were made to cover insurance. As the system developed the insurance feature was simply the pro-rate of the losses of the preceding fiscal period. The types of loans the government would make and the quality of paper it would discount kept the losses low and within a year the federal government would loan money to its citizens at an average interest of three-quarters of one per cent per annum.
"Then he dealt his final blow. His new banking law permitted the government to regulate the percentage of fractional reserves that private banks were required to keep on hand to meet withdrawals by depositors. As you may know if you have studied the banking laws of your period, the so-called fractional reserve was a dodge whereby a banker could loan money he didn't have and never had. It actually permitted him to create new money, based not on gold, nor on his own credit, but on the credit of his customers. LaGuardia proceeded to regulate with a vengeance. He ordered fractional reserves increased in a program that called for one hundred per cent reserves at the end of three years. The disgruntled bankers made a test case and took it to the Supreme Court. The Solicitor-General argued that the law and the order made under its authority were not only constitutional but that fractional reserves as hitherto used were clearly in violation of the constitutional provision giving Congress the sole right to coin money and regulate the value thereof. The Court upheld the administration on all counts in a famous decision written by Mr. Justice Frankfurter, and the manipulation of the money power was destroyed in the United States."
"Then private banks were destroyed?"
"Not entirely. They remained a useful institution for some people as depositories for they soon offered services to their customers that the Bank of the United States did not give. If you like to have your deposits received by messenger at your home or want to cash a check in the middle of the night, the private bankers will gladly oblige. And there was still plenty of room for speculative credit pools for people who wished to risk their capital in expectation of high return. The banks continue to lend money at high rates where the risk is great and not easily figured, but they have to lend real money now, not stuff that they draw out of the ink well. The fractional reserves decision put an end to that. You will find what an important part the speculative bankers played in the penetration of South America. They still play an important role. They supply an element of private initiative and enterprise in industry that government cannot hope to provide."
"What about the South American penetration? The records were rather vague or perhaps I had gotten out of my depth."
"Some historians call it rape rather than penetration. Up until 1970 the United States had been steadily losing ground in South America. During the reign of Edward Europe grew steadily more industrialized and found her greatest market in South America. The Asiatic market had been worthless since the 1930's and South America with its raw materials was in a position to reciprocate. On the other hand the United States was an agricultural export nation, and this annoyed several South American states, especially Argentina. But the Forty Years War changed all this. The United States had undergone an economic improvement as a result of the Banking Act which had decreased the spread between production and consumption by lowering the percentage of the cost charges, in a commercial article, unavailable for purchasing power."
"I don't follow you."
"I suggest that you note it down and wait until you study the current economic system. You were probably educated in the conventional economic theories of your period which were magnificent and most ingenious, but—if you will pardon me saying so—all wrong. But to return to our muttons; the improved economic condition produced the usual political reaction and a conservative administration was elected after LaGuardia. There still remained however considerable spread between production and consumption. It had always been the conventional point of view, especially in the economic beliefs of the Conservative Party, that a prosperous nation required a favorable trade balance or gold balance as it was formerly called. In simple language that means that a country is best off when it exports more than it imports. Phrased in that way it sounds silly, for it is surely evident that a country that ships out more than it takes in gets poorer every year in terms of real wealth. Nevertheless there was an element of truth in it, a very practical truth at that time. The economic life was organized in such a comical fashion that each year the country produced goods of greater value than the people of the country were able to buy back and use up. This was known as over-production and many were the esoteric nonsensical things said about it. But the situation was that simple. The system of necessity produced more than it consumed. Of necessity. You can go into the mathematics of it later. Being an engineer you are bound to see the truth of it, and will probably be vastly amused by it."
"Do you mean to say that that was all there was wrong with business in the United States in my day?"
"That was all. And all of your labor troubles, and poverty, and physical suffering were as unnecessary as they were tragic."
"That seems preposterous. If it was as simple as that it could have been fixed. I could work out some scheme to fix it myself, half a dozen schemes. Why in the navy we wouldn't have put up with any such damn nonsense. Why didn't somebody see it?"
"Some people did, C.H. Douglas, Goulds Gainesborough, Bronson Cutting and a few others, but it was almost as difficult to convince people of the fact as it had been to convince an earlier generation that the world was round. In each case the fact was true and the fact was simple but the sturdy common sense of the man who had been brought up to believe in a flat earth or a 'favorable trade balance', rejected the truth. The socialists understood this truth of course, but they insisted that there was only one solution. There were many good solutions for so simple a problem. We believe nowadays that we have a solution more suited to the United States than socialism. But come, we are getting a long way off from South America.