Building an Ark: How to Protect Public Revenues
from the Next Meltdown
By Ellen Brown
October 13, 2014 "ICH"
Concerns are growing that we are heading for
another banking crisis, one that could be far
worse than in 2008. But this time, there will
be no government bailouts. Instead, per the
Dodd-Frank Act, bankrupt banks will be
confiscating (or “bailing in”) their customers’
includes local government deposits. The fact
that public funds are secured with collateral
may not protect them, as explained earlier
here. Derivative claims now get paid first
in a bank bankruptcy; and derivative losses
could be huge, wiping out the collateral for
a September 24th article titled
U.S. Banks Each Have More Than 40 Trillion
Dollars In Exposure To Derivatives,
Michael Snyder warns:
Trading in derivatives is basically just a
form of legalized gambling, and the “too big
to fail” banks have transformed Wall Street
into the largest casino in the history of
the planet. When this derivatives bubble
bursts (and as surely as I am writing this
it will), the pain that it will cause the
global economy will be greater than words
too-big-to-fail banks have collectively grown
37% larger since 2008. Five banks now account
for 42% of all US loans, and six banks control 67%
of all banking assets.
their reckless derivatives gambling, these
monster-sized banks have earned our distrust by
being caught in a litany of frauds. In an
article in Forbes titled “Big
Banks and Derivatives: Why Another Financial
Crisis Is Inevitable,” Steve Denning lists
rigging municipal bond interest rates, LIBOR
price-fixing, foreclosure abuses, money
laundering, tax evasion, and misleading clients
with worthless securities.
Particularly harmful to local
governments have been
interest rate swaps misrepresented as protecting
government agencies from higher rates.
Michael Snyder observes:
this point our economic system is so
completely dependent on these banks that
there is no way that it can function without
them. . . . We are steamrolling toward the
greatest financial disaster in world
history, and nobody is doing much of
anything to stop it.
Sidestepping the Steamroller
California Governor Jerry Brown sees it coming.
Rather than rebuilding the state’s crumbling
infrastructure, rehiring teachers and other
public employees, and taking other steps to
restore the Golden State to its former
prosperity, he has
proposed a constitutional amendment
requiring all excess state revenues to go into a
rainy day fund to prepare for the next crisis.
there is a better way forward.
North Dakota – the only state to post a budget
surplus every year since 2001 – the state owns
its own bank. When the state last went
over-budget in 2001 due to the Dot.com crisis,
it merely issued itself an extra dividend
through the Bank of North Dakota – the only
state-owned depository bank in the country – and
the next year it was back on track.
local governments would do well to follow suit,
not just for the promising profit potential, but
as protection against a “bail in” of public
their own banks can also protect local
governments from a looming and unaffordable
rise in municipal bond interest rates.
State treasurers fear that the Fed’s September
2014 exclusion of municipal bonds from the
category of “high quality liquid assets” that
big banks must hold will drive up bond rates, as
it shrinks the market for those bonds and drives
up the interest required to attract buyers.
is also the big money local governments lose to
Wall Street just in fees. A 2013 study found
the city of Los Angeles spends over $200 million
annually on big bank fees and management –
more than its budget to maintain its extensive
streets and highways.
In a recent press conference,
Mayor Javier Gonzalez of Santa Fe raised
provocative questions facing all elected
officials today. He said:
Right now our bank is Wells Fargo. They
serve the City according to our contract.
But they also take city revenues, taxpayer
dollars, and they use those taxpayer dollars
as part of their loan portfolio that goes to
places outside of Santa Fe and certainly
outside of New Mexico. And when you think
of that most basic concept of taxpayer money
being used to earn revenues for national
banks that have reduced their small business
lending by 53%, you have to pause and wonder
– is this the best structure for our
Addressing these concerns, Mayor Gonzalez has
launched a formal process to study the
feasibility of a city-owned bank of Santa Fe.
Public banking efforts are also underway in
other cities and states.
Start a Bank Overnight
a state or municipal public bank need not be
slow or expensive. An online bank could be run
out of the Treasurer’s office and operational in
a few months. And the bank could be turning a
profit immediately – without spending the local
government’s own revenues.
way Wall Street does it with our public
deposits and investments: by leveraging. We
could reclaim those funds and put them to work
for our local economies.
bank could be capitalized with a bond issue
(borrowing from the public), and this capital
could be leveraged into a loan portfolio that is
about eight times the capital base. The bond
issue could be financed with 1/8th of
the interest accruing from this portfolio. The
remaining 7/8th could be pocketed as
profit could be earned immediately and without
risk, by buying municipal bonds rather than
issuing loans. That move could also help
municipalities, by guaranteeing that their bond
rates remain low in the face of threatened
interest rate rises on the private market.
Start a Bank at Virtually No Cost or Risk
demonstrate the safety and viability of the
model, the bank can start small and build from
For startup capital, a new bank needs
anywhere from a few million to $20 million
nationwide. (The amount varies from state to
state.) To be cautious and conservative,
however, let’s say $40 million.
cities have this money available in “rainy day”
or reserve funds. Many others have substantial
investments, often underperforming, that could
be more responsibly invested as an equity
position in a bank. In California, for example,
a whopping $55 billion is languishing in the
Treasurer’s Pooled Money Investment Account,
earning a mere 0.23% interest.
a portion of those funds into the state’s own
bank would just be good portfolio management.
State pension funds are another investment
surplus funds are not available, capital can be
raised with a bond issue. (That is how the Bank
of North Dakota got its start in 1919.) Assume
the interest due on these bonds is 3%. The local
government’s cost of funds will be $1.2 million
10% capital requirement, $40 million is
sufficient to capitalize $400 million in loans.
But again assume the bank is started
conservatively at a 20% capitalization, for a
loan portfolio of $200 million.
those loans, the bank will need deposits. These
can be acquired without advertising or other
costs, by moving $200 million out of the local
government’s existing deposit account at
JPMorgan Chase or another Wall Street bank. (In
North Dakota, all of the state’s revenues are
deposited by law in its state-owned bank.)
Assume the new bank pays 0.3% interest on these
deposits, or $0.6 million annually as its cost
satisfy the 10% reserve requirement for deposits
(something different from the capital
requirement), $20 million of this deposit pool
would be held in reserve. The remaining $180
million are counted as “excess reserves,” which
can be used to make an equivalent sum in loans
or bond purchases.
the excess reserves are used to buy local
municipal bonds paying 3% annually. The return
to the bank will be $5.4 million less $0.6
million in interest on the deposits, for a total
of $4.8 million annually.
recoup the cost of the bond issue, $1.2 million
can be paid from these profits as a dividend to
the local government. The bank will then have a
net profit of $3.6 million annually; and this
profit will have accrued to the local government
as the bank’s owner, without needing to advance
any money from its own budget.
the state needs its deposits for its budget?
the beauty of being a bank rather than a
revolving fund: banks do not actually lend
their deposits, as
the Bank of England recently acknowledged.
Rather, they create deposits when they
make loans. If the state or local government
needs more cash for its operating expenses than
the bank has kept in reserve, the bank can do
what all banks do: it can borrow. And if it has
grown to be a large bank, it can borrow quickly
and cheaply – from other banks through the Fed
funds market at 0.25%, or from the money market
smaller public bank might want to keep a larger
cushion of deposits in reserve for liquidity
purposes. If it keeps 30% in reserve, in the
above example $140 million would be left to
invest in bonds, generating $4.2 million
annually in interest. Deducting $1.8 million as
the cost of servicing deposits and capital, the
bank would still generate $2.4 million in
profit, while providing a safe place to park
the bank’s operating costs? These can be kept
quite low. The Bank of North Dakota operates
without branches, tellers, ATMs, retail
services, mega-salaries or mega-bonuses. All
those saved costs fall to the bank’s bottom
Ballpark operating expenses for a small but
growing public bank with a President, Chief
Financial Officer, Chief Lending Officer, Chief
Credit Risk Management Officer, Compliance
Officer, and the systems required to support a
banking function are estimated at under $1
million per year. A start-up focused on
municipal bonds could be operated for even less.
This expense could come out of the initial $40
million in capitalization, again without
impairing the local government’s own operating
Manifesting the Bank’s Full Potential
charter has been obtained and sound banking
practices have been demonstrated, the capital
ratio can be dropped toward 10%. When the bank
has built up a sufficient capital cushion, it
can begin to work with community banks and other
financial institutions for the broad range of
commercial lending that creates jobs and
prosperity and generates profits as non-tax
revenue for the municipality, following the Bank
of North Dakota model.
public bank can also invest in infrastructure
loans to the state or local government itself.
Interest now composes about half of capital
outlays for public projects. Since the local
government will own the bank, it will get this
interest back, cutting infrastructure costs in
are just a few of the possibilities for a
publicly-owned bank, which can provide security
from risk while generating a far greater return
on the local government’s money than it is
getting now on its Wall Street deposit accounts.
As we peer into the jaws of another economic
meltdown, moving our public funds into our own
banks is an investment we can hardly afford not
Ellen Brown is an attorney, founder of the Public
Banking Institute, and author of twelve
books, including the best-selling Web
of Debt. In The
Public Bank Solution, her latest book, she
explores successful public banking models
historically and globally. Her 200+ blog
articles are at EllenBrown.com.