Our Current System 5.45 The duties of our central bank

The Fed’s duties fall into 4 distinguishable areas:

  1. Basic banking services;
  2. Banking standards & supervision;
  3. Money creation; and,
  4. Compensating for an unstable system.

Basic banking functions

Services to financial institutions & the public

Providing financial services to depository institutions, the U.S. Government, and foreign official institutions, including playing a major role in operating the nation’s payments system (Fed 2005).

These are the same banking services explained in Chapter 3.253.26 — secure storage, transfer, accounting, plus the financial service of brokering loans between the banks.

Bank regulations and supervision

Supervision & regulation

Supervising and regulating banking institutions to ensure the safety and soundness of the nation’s banking and financial system and to protect the credit rights of consumers (Fed 2005).

The central Fed shares this responsibility with State banking oversight and with other government agencies.

Money creation

MONETARY & ECONOMIC POLICY. Conducting the nation’s monetary policy by influencing the monetary and credit conditions in the economy in pursuit of maximum employment, stable prices, and moderate long-term interest rates (Fed 2005).

The creation of money is by far the most important privilege and power accorded to the Federal Reserve System. But, I have not found a clear and honest statement of the money creation role in accessible Fed documents intended for public consumption. Curiously, this seems to be a blind spot for central bankers. In the past two years Great Britain and Germany, after some central bankers insisted on the record that they did not create money, commonwealth money advocates pushed their parliaments to order their central banks to research and produce a report on money creation. The central bankers in their reports, said, Oh, my, we DO create money. Who knew?20

The central Fed creates new money when it issues a loan to a member bank or to the US government, just like your bank creates money for you when it issues you a loan. However, as the Fed itself makes clear, the individual banks exercise the greatest power to increase or decrease the money supply. The role of the central Fed is one of influence, not control over how much money the private banks create. That is an astounding free ticket to the private banking sector.

Fed influence on the money supply

In theory, the central Fed has some influence on how much money the private bankers create; but, in practice, it does not. The central Fed cites three primary tools for influencing the creation of new money by its member banks:

  1. Setting a target for the interest banks charge each other for loans, called the Federal funds rate; an
  2. Setting the rate it charges when it makes loans – creates money – for its members, called the discount rate;
  3. Buying and selling securities through its Open Market Operations.

Set a target Federal Funds Rate

The Federal funds rate is the average interest rate banks charge when they loan money overnight to each other. It would be more accurate and helpful to call this the interbank lending rate. Remember one of the primary functions of a central bank is smoothing out the need for reserves in a fractional reserve money creation system. An individual bank will aim to keep as little reserve as possible to increase its profits, but stay within the bounds of the daily demands of its depositors for access to their money. That’s difficult. A small error could leave them short, and a little short could spiral an independent bank into a run and collapse. The central bank allows one bank to borrow the reserves not used by another bank to cover little daily misjudgments. This provides more stability for the banks, reduces their need to keep the prudent reserves on hand they would otherwise need, and increases their profits.

The Federal Reserve Board sets a target interest rate for this interbank loan program, and facilitates interbank negotiations on the interest rate for their transactions. The central Fed then compares the actual rate to its target as one gauge of how well the money system is working. If the average interest charged is too far off the target, the central Fed will conclude there is too much or too little money in the economy and they will buy or sell securities (mostly US Government IOUs) to the public to increase or decrease the supply of money.

Set the Discount Rate

When there are not enough reserves for interbank lending, the Federal Reserve itself plays fractional reserve money creator and loans directly to member banks. The interest on these loans is called the discount rate. It would be more accurate and helpful to call this the

Fed lending rate. The setting of this interest rate is considered one of the central bank’s primary tools of monetary policy. The assumption is the more it costs bankers to borrow these reserves, the more likely they will be to keep their own reserves on hand, diminishing the amount of new money they create by lending.

The Fed admits it doesn’t really work this way; they produce the reserves after the banks have created the money. The money-multiplier reserve story is that the reserves of member banks and the reserves created by the central Fed when it loans its members money are the base money of the pyramid (Chapter 4.34). Some bankers and economists consider this central Fed-created money a special kind of money, even though it functions like any other, describing it as base money, or narrow money, or high-powered money. These special names are a map-making conventions, not the reality.

Buy and sell US Government securities in the Open Market

A group of members from the Fed’s central board and representatives from the 12 Federal Reserve Banks form the Open Market Committee. This Committee is in charge of trading US securities (IOUs from the US Government). At their instruction, the NY Fed acts as the primary dealer, broker and market maker for US Government securities – buying them from, and selling them to the general public. It contracts out some of this brokerage to a few privileged member banks.

When the Government needs more money, it gives an IOU to the Fed and the Fed creates new money for our Government, upon which taxpayers pay interest. The Fed then either sells the US IOU to the general public or keeps it on its books as an asset. Please note: the Government is NOT creating this new money; it is borrowing – and it will pay interest on these loans to the Fed or to whoever comes into possession of the IOU.

Dealing in US Government debt is considered the primary Fed tool for changing the amount of money in the economy. In order to sustain this influence, the amount of available government debt must increase as the money supply increases. If the Fed decides there is too much money in the economy and they want to decrease the supply, they sell some of the US Government IOUs they hold as assets. When they sell these to the public, they pull money (Fed IOUs) out of the economy, reducing the money supply.

If the Fed decides there is not enough money in the economy and they want to increase the supply, they buy a US Government IOU being held by someone in the public. The IOU goes onto the Fed’s books as an asset, and in exchange, they issue new money to the seller (Federal Reserve IOUs-notes). This puts new money into the economy, increasing the supply.

The Fed uses complicated algorithms to determine at what price the US Government bonds should be bought or sold and hopes the market will go along. The rate they choose has some impact on the entire financial sector because US Government debt is the anchor for the creation of money by the banking sector. However, the banks have gamed this requirement such that the impact is diminishing to negligible.

Compensating for choosing an unstable system

FINANCIAL SYSTEM STABILITY. Maintaining the stability of the financial system and containing systemic risk that may arise in financial markets (Fed; added in last 30 years).

We have chosen an unstable system of money creation and tied it to the business of finance. This makes our financial markets as unstable as the money system. In recognition of this instability, laws have been added to make the Fed responsible for “containing systemic risks that may arise in financial markets.” This makes the financial markets unique – they are not dependent on good business practices, nor on market forces for their survival; the big players in the financial markets have a government guarantee, granted by virtue of their tangled connection to their role as creators of the national currency.


Our chosen system is grossly unfair; it gives privilege and power to the financial sector. As counterbalance to this extraordinary privilege and fundamental imbalance of power, over the years Congress added some requirements that banks issue a percentage of loans in their own communities. Banks must make room in their portfolio for some loans to Main Street business. And a law requires banks make a tiny percentage of loans to people who are financially disadvantaged. The biggest national banks flick these requirements off their shoulders as a nuisance; smaller regional banks have to scramble to meet and document their compliance, which makes it harder for them to compete.

And, in recognition of the financial sector’s record of treating the gullible as if they were piggy banks, a few laws were recently added to give consumers a smidgen of protection from predators in the financial sector. For example, in 2010 Congress passed and President Obama signed the Dodd-Frank Wall Street Reform and Consumer Protection Act, which created the Consumer Financial Protection Bureau, consolidating Federal consumer financial protection authority in one place.

This bureau takes action against predatory financial companies and practices that violate the law. By the end of the Obama administration, it had returned $12 billion dollars to consumer victims of fraud.21

But, as if the financial sector is incapable of being held to a standard of integrity and honesty, the money power and its minions in Congress are fighting the existence of the Consumer Financial Protection Bureau. In July 2015 and again in February 2017, Texas Republican Senator Ted Cruz submitted a bill to do away with the bureau, claiming the bureau’s “financial activism…stunt(s) economic growth.”22 Where does this idea come from that American business can’t grow and make profits when it is required to meet ethical behavior standards and be held accountable when it cheats consumers? Doing away with the meager protections this bureau provides is part of the 2016 Republican National Platform 23 With the three branches of government under Republican control beginning in January 2017, if you disagree, and want an agency protecting consumer interests, speak up. Where does your Congressman stand?

Generally, the central Fed is there to serve the interests of its members, who are the primary movers in our money system. They do not serve the interests of the people.