1929 ParallelsBy Thomas E. BrewtonCentral banks are not so wise or powerful as most people assume them  to be.The over expansion of credit fueled by the Federal Reserve between  1922 and 1927 had many parallels to the "irrational exuberance" of  financial markets since the beginning of the Clinton administrations.In the Wall Street Journal's September 21 edition, reporter Brian  Blackstone writes:"Federal Reserve governor Kevin Warsh on Friday cautioned against  assuming that the Fed will prop up asset prices or protect individual  financial institutions..."In "Economics and the Public Welfare," a book that cannot be too  highly recommended, Benjamin M. Anderson described a similar  situation confronting the Federal Reserve in 1926.Mr. Anderson's assessment is authoritative, because he was chief  economist for the Chase National Bank, then one of the world's  largest, from 1920 to 1937.  During that period he was in close  contact with major bankers in the United States and central bankers  around the world, as well as being closely involved with Chase's  large corporate clients.In contrast to the 1922-27 period, "The great crisis of 1920-21," he  wrote, "was primarily a crisis of commerce and industry, and in the  course of the crisis customers who needed loans were able to supply  the banks with paper which was eligible for rediscount at Federal  Reserve banks."Eligible paper then was based on self-liquidating, short-term  transactions, representing sales of products to creditworthy  customers who could be expected to pay for the goods, usually within  90 days.As the Great Crash of 1929 approached, Mr. Anderson observed, "The  next crisis, however, seemed more likely to come in installment  finance, in real estate, and, above all, in stocks and bonds.  And  none of these could supply paper eligible for rediscount at the  Federal Reserve Banks."Today, as in 1927-29, financial institutions are clogged with  illiquid, long-term assets, this time subprime mortgage loans and  complex derivative securities that are several generations removed  from any underlying merchandise transactions.Continuing the quotation from Federal Reserve governor Kevin Warsh:"Recent problems in financial markets were caused by "complacency" in  valuing assets, and not solely by problems in the subprime mortgage  sector, Mr. Warsh also said...Mr. Warsh traced the market's complacency to the perception that  economic conditions were so "benign" and financial markets "robust"  that investors "tended to act with confidence greater than warranted  by the fundamentals."Again Mr. Anderson's analysis of the 1922-27 period provides  disquieting parallels:"Bank credit expansion had moved far in the United States between  June 30, 1922, and June 30, 1927...Unneeded by commerce, the rapidly  expanding bank credit went into capital uses and speculative uses.   It went into real estate mortgage loans on a great scale...There was,  moreover, a great increase in installment finance paper...The terms  and conditions were relaxing.  Maturities were stretching from twelve  to eighteen months, and finance companies were multiplying...The most  startling increase, however, in the assets of the banks was in bank  investments in bonds and in commercial loans against stocks and bonds...Stock prices were already high in the summer of 1927...There was a  growing belief that stocks, though high, were going much higher.   There was an increasing readiness to use cheap money in stock  speculation...Moving concomitantly with the bank expansion and the  rising stock prices was a great increase in new security issues."Today's parallels are the gross expansion of subprime mortgage loans  and so-called home equity, second mortgage, home loans, along with  rampant growth of take-overs by private equity funds, based largely  upon the abundant availability of cheap loans.One difference between today's situation and the 1920s over  expansion, both fueled by the Federal Reserve's excessive expansion  of the money supply, is that in the 1920s our banks were lending  heavily to overseas banks to provide credit for our booming exports  of farm products and machinery to rebuild Europe after the First  World War.  By 1927, blocked by our high tariffs, foreign exporters  could no longer sell enough product to the United States to generate  sufficient dollars to repay their loans from American banks and  investors.Today, the Federal Reserve finances burgeoning imports from overseas  via inflationary expansion of the money supply.  Central banks  everywhere are awash in dollar-based assets.  Many of them are  beginning to diversify their foreign exchange reserves into other  currencies and into new classes of assets.  OPEC countries are making  noises about no longer being willing to price oil exports in dollars,  because our currency is depreciating so rapidly against the Euro,  Japanese Yen, and other major currencies.Mr. Anderson's concluding observation on the Federal Reserve's over- expansion of the money supply from 1922 to 1927 was:"We could prolong it for a time by further bank expansion and further  cheap money policies, but only at the cost of creating a desperately  difficult situation at a later time."Thomas E. Brewton is a staff writer for the New Media Alliance, Inc.  The New Media Alliance is a non-profit (501c3) national coalition of  writers, journalists and grass-roots media outlets.His weblog is THE VIEW FROM 1776http://www.thomasbrewton.com/