Our monetary architecture

[doodle]

So, I would like to have a thread that walked through the way our monetary system is structured without any "shoulds" or "coulds"...I want to understand the facts behind how our system presently operates. I have a pretty decent handle on parts of it, but I want to understand it from "teeth to tail" so to speak.

So...let's start with the first step and pretend for reasons of clarity all the money is pulled out of the system and we start over again.

What is the first step that is undertaken to get money into the system? (for reasons of simplicity lets also remove treasury coinage from this discussion and focus solely on the federal reserve system)

The first step as I understand it would be that the government would issue bonds that would be deposited at the federal reserve in exchange for federal reserve notes. How would this money get into the banking system? How do we get this motor initially running???

[Benko]

This is a really good topic.  Thanks for posting.

[MachineGhost]

The first step as I understand it would be that the government would issue bonds that would be deposited at the federal reserve in exchange for federal reserve notes. How would this money get into the banking system? How do we get this motor initially running???

That's not the first step as I understand it.  The first step is Congress with the flick of a pen authorizes a preset amount of spending, which includes pork, cronyism and transfer payments.  This authorizes the Treasury -- subject to the debt ceiling limit -- to send out the money via ACH against its bank account at the Federal Reserve.  The Federal Reserve always covers whatever the Treasury ACHs, whether or not the bank account balance is negative.  It can do that because it is the monopoly bank to the Federal government and is dependent or accountable to no one else other than Congress and its shareholders (the banks).  Afterwards, the Treasury auctions off bonds to the primary dealers (that collude with the Fed and Treasury before the auction to set the yield and guarantee that it is fully subscribed) that then funds the banking system's reserves and the proceeds are credited against its bank account with the Fed.  Taxes collected by the IRS are simply destroyed but that may just be actual currency; so then the account at the Fed again gets credited otherwise.  All taxes, fees, etc. no matter how named in the IRC or collected are simply accounting entries to the Treasury's General Fund or in some rare cases specific Dept. accounting entries like the SSA.

[AgAuMoney]

It sounds like you are talking about "the next dollar", rather than the first dollar.

The first dollar is easy.  It existed prior to the present system and was typically a spanish 8 Realle coin of approximately 371.25 (IIRC) grains of pure silver alloyed to around 90%.  Everything else was based upon that reference dollar and has been evolving ever since.

But since we already have an existing system, "the next dollar" means you have to pick some starting point other than the beginning.  Within the existing system the next dollar could be from just about anywhere...

Any commercial bank with excess reserves (most if not all of them, even Ally bank is still making new loans) could make a loan creating money.  This could be as simple as an existing line of credit allowing a credit card charge or overdraft protection clearing a check.

The federal reserve is authorized to have the Treasury print as many notes as they like as long as they pay the cost of printing (a few cents per bill), and distribute those however they like.  According to Ben Bernanke the federal reserve could even fly helicopters and drop those notes from them.  (These are federal reserve notes with legal tender status and a stated value in U.S. dollars, they are not U.S. dollars but for purposes of this discussion the distinction is probably irrelevant.)  This was the source of all the currency exported to Iraq and Afghanistan over the past decade. (I've been trying to find out if the U.S. gov't paid the Federal Reserve face value for it, not that it really matters too much as the Fed would only have been allowed a direct profit of 6%.  They have been reporting stellar profits...)

The federal reserve could create (either print or digital) and lend new money, typically to its member banks and foreign banks just as it did in 2007-2010.  I think as a private corporation they could lend to anyone.  I do not recall any limits in the law restricting that but I wasn't reading with this question in mind.

The executive branch could write a check on already authorized spending.  That check is new money and as it passes thru the Federal Reserve system it is monetized and demonetized just like any check.  The only difference is there did not need to be a matching deposit before it was spent.

The executive branch could direct the treasury to issue money as already authorized by law.  That money could be coinage or paper notes.

[whatchamacallit]

My "guess" is that the first Federal Reserve debt dollar was created sometime after the United States wealth dollars were deposited to them.

It appears to me that the United States also deposited their gold at the Federal Reserve using the 100,000 dollar bill:
http://en.wikipedia.org/wiki/Large_deno ... 2C000_bill

Once this ran out, they had to start borrowing Federal Reserve debt dollars?




On another note:

I watched some videos from Byron Dale that doodle had recommended and literally felt like throwing up at one point. I felt sick after watching money as debt for the first time too.

You can tell Byron Dale gets the same way when he is talking about it at times. I guess it just clicks at times how enslaved we are if it is all true.

I think I understand the problem better now after watching Byron Dale and more Money as Debt recently which everyone here may already know extensively.

The problem isn't fiat currency. The problem is that the money is only created as a debt. It is never created as a form of wealth to provide payment.

The interest is then only paid by more debt money which is where I start feeling sick.

[Pointedstick]

I think I understand the problem better now after watching Byron Dale and more Money as Debt recently which everyone here may already know extensively.

The problem isn't fiat currency. The problem is that the money is only created as a debt. It is never created as a form of wealth to provide payment.

The interest is then only paid by more debt money which is where I start feeling sick.

Yup. Now you see why so many of these threads that discuss the nature of the monetary system end up in shoulds and coulds. 

[doodle]

Wow! Slotine, that was some answer! I have read it twice and while this is a great explanation, I would like to break down everything into smaller bites so that we can reach consensus on various key stages in this evolutionary process.

I guess my original question should have been posed to address the historical evolution of the system rather than just starting from scratch again within the present monetary architecture.

Soo.....

The first thing I think anthropologists have come to determine is that money in its earliest variety was not of a commodity form. In other words, money did not originate with some guy finding a seashell and telling his neighbor to exchange that for a milk cow. No rational human would do that today, so we cant think our ancestors would have been any different.

Money today is commonly have thought to originated when two producers (in your case farmers and tractor manufacturers) had different products that they wanted to exchange.

In your example you carry on for a while with the trading of physical goods. I think the creation of money in a transaction between farmers and tractor makers would have have happened a lot earlier. Instead of physically trading the tractor for tons of wheat or corn, the farmer would have just written an IOU to the tractor farmer right off the bat that entitled him to some amount of future production. In the old days this would have probably been engraved on a clay tablet of some form and notorized by someone of power in the community.

So lets stop there for a moment if we can. Are there any disagreements or additions that anyone wants to make to this, before we move on to what happens with this IOU next?

[doodle]

Well, the IOU doesnt become money quite yet until it is passed to a third party in payment of something.

Here is how I see the next few steps.

So now that I have these IOUs from the farmer in the form of little clay tablets or what not, I want to have some entertainment (to continue with your example). So I hire some entertainers to come to my house for my sons birthday party.

These entertainers dont want tractors, but they do need to eat. So I pay them by giving them some of the little clay tablets that I received from the farmer in payment of the tractor. These entertainers can now take these little tablets to the farmer to get the food they need at anytime after the show.

At the same time, other producers in the community realize that they can start creating these little IOUs to exchange with other people. So a barber might create 100 little tablets and walk around town with them. When he wants something he will just exchange one of his little tablets entitling the person to a haircut in exchange for whatever product he wishes to buy. Or if the person doesnt want a haircut, he might have to trade another IOU tablet that he aquired from someone else in exchange for the product he wants to buy.

This system functions amongst a small community of people but quickly gets very complicated. There is a need for a single currency or IOU issuer to facilitate ease in commerce.

Would you add anything to that so far? Im trying to walk through this step by step for myself so as not to get confused with how complicated things can quickly get :-)

Up to this point Im working off of some of the ideas presented in this video http://www.youtube.com/watch?v=PjkeW44oLLg&sns=em

[AgAuMoney]

Can the Federal Reserve just arbitrarily create money?

No - unless you again narrow the term money to mean physical paper money, in which case they’re the only ones allowed to create money.

The answer in both clauses is incorrect.

The Federal Reserve is not the only one allowed to create paper money.  The executive branch of the federal gov't can mint coins and print U.S. notes as currently authorized by Congress.  Those notes do need to be backed by silver or gold, but the executive branch also has the authority to determine the physical amount of gold used to back those notes (known as setting the official price of gold) thus allowing essentially unlimited creation of paper currency.

The Federal Reserve has created arbitrary amounts of "digital" money at least since 2008 and loaned said money to foreign banks in excess of the amount available on the Fed's balance sheet.  This was documented as part of the partial audit a few years ago.  When questioned as to the source of the money for the loan, direct creation was admitted.  Since there was no penalty for this action, it must be legal.  Bernanke has also claimed this same power for the Federal Reserve both prior to and since 2008.

[AgAuMoney]

By definition, the bag of flour above is a commodity money.  Surprisingly, the gold coin that represents the deposit claim isn't a commodity money.  The time it BECOMES a commodity money is when you find the opportunity to remelt the gold and submit it to another bank for its deposit.  Sans an accepting bank, it reverts to having the value of being a shiny object, nothing more.  It's kind of a bad term as well

Of course the gold coin was commodity money.  Why would you remelt it or even think it was necessary "to make it a commodity again" before submitting it to any bank?  One of the long understood (as in thousands of years) attributes of gold is it does not matter its form.  It is fungible, divisible and can be recombined.  The commodity value is the floor on the value, not the ceiling.  The recipient never discounted gold except for lack of purity, and sometimes the imprinted form was worth more than the plain commodity so there was seldom reason to melt it again.  The only good reason to remelt is to re-refine.  The other reason is if you were trying to disguise the source of your gold (e.g. dental work and wedding rings from prison camps melted into rough bars during WWII).  Modern analysis makes much of the attempted disguise moot, btw.

And one of the reasons why gold (and silver and copper and bronze and iron and grain and etc) became "money" is because people wanted them for their own purposes before they became money.  That demand, known as intrinsic value, is what led commodities to become money eons ago and in prisons today.  Commodities that would not spoil or burn or get eaten by vermin or rust is what pushed money up the tree to more stable and rare metals.  Rarity increased the value, and in the case of gold the lack of even tarnish was seen as a positive attribute in primitive cultures in many parts of the world.

[AgAuMoney]

The Federal Reserve has created arbitrary amounts of "digital" money at least since 2008 and loaned said money to foreign banks in excess of the amount available on the Fed's balance sheet.  This was documented as part of the partial audit a few years ago.  When questioned as to the source of the money for the loan, direct creation was admitted.  Since there was no penalty for this action, it must be legal.  Bernanke has also claimed this same power for the Federal Reserve both prior to and since 2008.

Let's get back to the statement that the fed can't create money.  All that 'money' - as in a marker on real value and not the MB definition - was in the system already.  The Fed can absorb and transmute the risk of it.  When the Fed admits to creating money on demand, they mean they can create MB while performing repos alongside the more standard asset purchases.  You can perform as many repos as you want and continually roll it forward.

In the situation that came out in the audit, the Fed loaned money to foreign central banks similar to the way they loan money to the federal gov't in some instances, and via the discount window in other instances.  In both cases the Fed receives an IOU of some kind from a needy entity, and credits the account of the needy with dollars.  Those dollars did not exist before.  The IOU did not necessarily exist before, just like signing a personal loan document or running up charges on a credit card creates an IOU.  The IOU becomes an asset on the Fed's balance sheet and the dollars become an asset of the needy.  The Fed also started and is continuing dollar swaps, where the Fed is credited with foreign currency and the foreign entity is credited with dollars.

http://www.federalreserve.gov/faqs/bank ... 3.htm  general
http://www.federalreserve.gov/faqs/banking_12842.htm summary from the Fed perspective

http://www.bloomberg.com/news/2011-04-0 ... .html  some amounts, arguably the most realistic numbers.  Some talk about $16 Trillion, but that was a sum of all loans over time, not the maximum outstanding at any one time.

http://blogs.wsj.com/economics/2012/12/ ... ncy-swaps/

http://www.pbs.org/wgbh/pages/frontline ... etly-lend/

It's a technicality as the Treasury can't flood the market directly with newly printed bills themselves, not to mention that the current FRN isn't tied to gold or silver.

The FRN has not been tied to silver since 1963 or 1964.

The U.S. notes still are.  Or so it appears to me.  Please find where the law was changed.  It appears to me as I originally described, the Executive branch can print paper U.S. notes with any arbitrary gold backing or if the treasury had any silver, silver backing.  (not FR Note's, U.S. notes)

A minor loophole exists with minting coins

If by "minor" you mean "can do pretty much anything they want."

[AgAuMoney]

The real world already has a long history of gold having value and it's easy to mistakenly attribute its worth to the properties it has.  All those properties make gold a great material to make the token out of - but its worth - at least in global history is tied to what it represents, somewhere on Earth.

Other than reversing cause and effect, I pretty much agree.

Menger, Rothbard, Mises, others, all documented how gold (and other commodities) became money.  Mises further postulated his regression theorem (which is still debated) that all money has to originate as a commodity, but I disagree with extending the concept that far.

[AgAuMoney]

EO-11110 was merely the last time a president directed the Treasury to print U.S. notes (or the last of which I am aware).  Those notes were actually silver certificates which were a subset of the universe of U.S. notes.

The last U.S. notes were actually issued in 1971.  While not redeemable in silver, they were exchangeable for any other legal tender (which was still 40% silver if you selected kennedy half-dollars) and such exchange is known in the law as redemption.  There was never any general promise of redeemability for silver or gold attached to U.S. notes.  That was only needed for FRNs.

The 1994 law change re. U.S. notes only eliminated the requirement that the Secretary of the Treasury issue new notes to replace old ones withdrawn by the Treasury from circulation.  In other words, there was a minimum number of U.S. notes that were required prior to 1994, and the 1994 change removed that lower limit and thus they essentially no longer exist in circulation.

However if you look at the Treasuries reports on the debt, they estimate how many U.S. notes are extant (some quarter of $Billion), and subtract that amount from the total U.S. debt.  Should the president desire, I believe he could issue more notes as I am still not aware of any law that says the U.S. could not issue U.S. notes, only that they are not required to issue.

[MachineGhost]

I can imagine the knee-jerk cries of "unfair" by banking officials if someone were to try to redeem those notes and demanded pre-1965 coins only.  I could see it going all the way to the Supreme Court, if it hasn't already.

[AgAuMoney]

USC 5115 gives a statutory limit at 300M.  Of which 239M are in circulation.  So yes, you're right they can still print money.

Ouch.  Limited to $61M hardly qualifies for petty cash even with 10-11 billion in gold certificates. 

Guess we have to get Congress involved.

[Ad Orientem]

So, I would like to have a thread that walked through the way our monetary system is structured without any "shoulds" or "coulds"...I want to understand the facts behind how our system presently operates. I have a pretty decent handle on parts of it, but I want to understand it from "teeth to tail" so to speak.

So...let's start with the first step and pretend for reasons of clarity all the money is pulled out of the system and we start over again.

What is the first step that is undertaken to get money into the system? (for reasons of simplicity lets also remove treasury coinage from this discussion and focus solely on the federal reserve system)

The first step as I understand it would be that the government would issue bonds that would be deposited at the federal reserve in exchange for federal reserve notes. How would this money get into the banking system? How do we get this motor initially running???

Murray N. Rothbard: A History of Money & Banking in the U.S.
http://www.youtube.com/playlist?list=PL6D09BB9900764D5F

[AgAuMoney]

So, I would like to have a thread that walked through the way our monetary system is structured without any "shoulds" or "coulds"...I want to understand the facts behind how our system presently operates. I have a pretty decent handle on parts of it, but I want to understand it from "teeth to tail" so to speak.

So...let's start with the first step and pretend for reasons of clarity all the money is pulled out of the system and we start over again.

What is the first step that is undertaken to get money into the system? (for reasons of simplicity lets also remove treasury coinage from this discussion and focus solely on the federal reserve system)

The first step as I understand it would be that the government would issue bonds that would be deposited at the federal reserve in exchange for federal reserve notes. How would this money get into the banking system? How do we get this motor initially running???

Murray N. Rothbard: A History of Money & Banking in the U.S.
http://www.youtube.com/playlist?list=PL6D09BB9900764D5F

Interesting videos.  Having the time to watch all those would be nice.  I'll have to download and try them double-time, but even that is a very long time.

The book is a decent read as well and went far more quickly.  You can buy it from the Mises Foundation or download it:  http://mises.org/books/historyofmoney.pdf

I prefer this for more detail and references but it is not cheap or a quick/easy read:
http://www.amazon.com/Pieces-Eight-Mone ... 0967175917

When I bought the goldmoney foundation reprint it was more reasonable:
http://www.goldmoney.com/goldmoney-foun ... eight.html