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How the Fed Creates Money

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Scott Friday Posted: Wed, Feb 9 2011 4:45 PM

Howdy,

Could someone please point me to a source that gives a clear explanation of how the Fed creates new money? I know it is created from nothing, but what is the process they use to get it into circulation?

Is it just lower banks borrowing from the Fed? Is it the Fed buying assets with created money? Who is involved?

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Clayton replied on Wed, Feb 9 2011 5:03 PM

From the Horse's Mouth: Modern Money Mechanics

In particular, look at the graph on page 12.

Clayton -

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Thanks. I'll give that a looking over.

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Southern replied on Mon, Feb 14 2011 9:19 AM

This might help.

Basicly what happens in open market operations.  This would be an example of the FEDs balance sheet.

 

1. Assets = Liabilities + Equity
  US Gov. Debt Comm Bank Debt   US Gov Deposits Com. Bank Deposit   Fed Equity Acct.
Begin $1,000,000,000 $1,000,000,000   $500,000,000 $1,000,000,000   $500,000,000
               
Before the purchase of the bonds you can see that the total money supply is 1.5 billion (the amount of money that the depositors at the Fed have access to).
               
2. Assets = Liabilities + Equity
  US Gov. Debt Comm Bank Debt   US Gov Deposits Comm Bank Deposit   Fed Equity Acct.
Begin $1,000,000,000 $1,000,000,000   $500,000,000 $1,000,000,000   $500,000,000
  $600,000,000       $600,000,000    
End $1,600,000,000 $1,000,000,000   $500,000,000 $1,600,000,000   $500,000,000
               
When the Fed purchases the bonds it simply makes ledge entries increasing its asset accounts and increasing its liability accounts.
               
3. Assets = Liabilities + Equity
  US Gov. Debt Comm Bank Debt   US Gov Deposits Comm Bank Deposit   Fed Equity Acct.
End $1,600,000,000 $1,000,000,000   $500,000,000 $1,600,000,000   $500,000,000
               
After the bonds are purchased the depositors now have access to $2.1 billion  (US Gov $500 million and Comm Banks $1.6 billion).   The money supply has just been increased by $600 million.
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