Raises confusing questions

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1440 minutes's picture
1440 minutes
Status: Bronze Member (Offline)
Joined: Dec 29 2008
Posts: 51
Raises confusing questions

If I understand correctly, here is how it works:

1.  Banks buy interest-paying bonds from Treasury Department.

2.  Federal Reserve buys these bonds from banks, essentially creating $ out of thin air.

My question is: if the Fed ends up buying the bonds anyway, then why does the Treasury Dept. sell bonds to banks as an interim step rather than selling them directly to the Fed?  Again, if Fed ends up buying the bonds anyway, then why does Treasury pay interest?

How quickly does Fed buy bonds from banks?  Does Fed pay prorated interest to banks?  Does Fed get to collect the remaining interest on the bonds?  If so, who gets the interest that the Fed collects?

fujisan's picture
fujisan
Status: Gold Member (Offline)
Joined: Nov 5 2008
Posts: 296
Re: Raises confusing questions

Yes, it's a two times operations.

Indeed, the Treasury Department issues and sells bonds to various banks (mostly Chinese), or even companies, individuals. A bond is a Federal (taxpayer) debt. No money is created here. The Treasury (Govt) gets existing money in exchange for the bond.

But the Fed only buys a small portion of the T-bonds, creating money "out of thin air" to pay it. Most T-bonds are NOT bought by the Fed, but remains in the hands of the initial holder (banks, companies, individuals...).

The interest are paid to the bond holder. It can be the Fed, but most is paid to various banks, companies, individuals...

1440 minutes's picture
1440 minutes
Status: Bronze Member (Offline)
Joined: Dec 29 2008
Posts: 51
Re: Raises confusing questions
fujisan wrote:

The interest are paid to the bond holder. It can be the Fed, but most is paid to various banks, companies, individuals...

Thank you.  So what happens when interest is paid to the Fed?  Is that interest deposited in the U.S. Treasury, or does it go to the private banks that form the Fed?

fujisan's picture
fujisan
Status: Gold Member (Offline)
Joined: Nov 5 2008
Posts: 296
Re: Raises confusing questions
1440 minutes wrote:

Thank you.  So what happens when interest is paid to the Fed?  Is that interest deposited in the U.S. Treasury, or does it go to the private banks that form the Fed?

See: The Structure of the Federal Reserve System

Federal Reserve System wrote:

Federal Reserve Banks generate their own income, primarily from interest earned on government securities that are acquired in the course of Federal Reserve monetary policy actions. A secondary source of income is derived from the provision of priced services to depository institutions, as required by the Monetary Control Act of 1980. Federal Reserve Banks are not, however, operated for a profit, and each year they return to the U.S. Treasury all earnings in excess of Federal Reserve operating and other expenses. 

jerryl's picture
jerryl
Status: Member (Offline)
Joined: Feb 18 2009
Posts: 4
Re: Raises confusing questions

Check this link out and read from bottom to top,  teaches you a lot.  Worth the read.

http://moneyaswealth.blogspot.com/

 Jerryl

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