The Role of The Federal Reserve

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otps's picture
otps
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The Role of The Federal Reserve

I understand how money is backed by debt in terms of fractional reserve banking but I get a little confused when the role of the fed comes in. This is what I know (correct if wrong).

The Fed is a privately owned in that memeber banks hold stocks and get a paid a dividend of 6% on their stock. After the operational costs are taken away and the dividend paid, the profits go back to the treasury.

When the Fed buys treasury bonds from the government, the government then pays the interest to the Fed and then when it matures, also the face value (unsure).

My questions is, will all the money that gets paid to the Fed from the government simply be paid back to the treasury through the profits? And if so, is the new money that has been created and paid to the bank as new money not really backed by anything, as the treasury bond in essence just gets wiped out? Can the Fed buy these treasuries more or less directly from the treasury, buying them straight after they have been bought by banks?

Thank you in advance for your responses.

 

 

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otps
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Posts: 3
Re: The Role of The Federal Reserve

I have updated my above post with the following.

When a bank joins the Fed, it is a requirement of the member bank to put up 6% of its capital stock and pay this to the Fed. It only pays this once (doubt). Every year each bank is paid a dividend of 6% on the capital it put up in the first place. This isn't related to the net income, but entirely on the amount of stock it holds with the Fed.

When the Treasury sells a security on the open market this is bought by a primary dealer. When the Fed wants to expand the monetary supply, it will buy these treasuries from one of these primary dealers.

When the Fed buys the security, the treasury will pay interest on this treasury to the Fed.

Looking at the < href="http://www.federalreserve.gov/monetarypolicy/files/BSTcombinedfinstmt2009.pdf">2009 report</a>, the Fed received $63 billion in total interest. Not all of this comes from the interest of the securites, but due to my limited knowledge of finance, I'm of not not completely sure exactly how much of the interest received comes from the government (around $45 billion is my guess).

The dividend paid to the banks was $1.4 billion and the amount that was given to the treasury was $47.4 billion.

So when the Fed buys a security it is monitizing the debt.

My question is how quickly does the Fed buy the security off one its primary lenders and what percentage are bought within seconds, minutes, hours of the original release? If this is bought before the first interest payment has been paid, and the Fed ultimately gives the interest paid by the security back to the treasury, then is the treasury basically just creating new money?

The bank pays money that is already in existence to the treasury to buy the security (the treasury now has the money the bank the security).

The Fed buys the security (the bank reveives the money (created out of thin air) that it paid to the treasury and loses the bond while the Fed takes on the treasury).

The Security is basically wiped out because the interest paid by the treasury to the Fed is ultimately paid back to the treasury.

The treasury is left with the money from the original security sale, the bank has the same amount of money as it had before the buying of the security and the same for the Fed.

How many securities are bought by the Fed this way, and what are the implications of this for the statement, "all money is backed by debt."

Thank you for any responses in advance.

Jack.

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Doug
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Re: The Role of The Federal Reserve

otps

Welcome to the forum.  I wish I had some answers for you because I've been curious about many of the same questions.  I hope someone more knowledgeable than us responds.

Doug

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otps
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Joined: Nov 6 2010
Posts: 3
Re: The Role of The Federal Reserve

It looks like I've found my answer.

When the bond matures the Fed simply rolls it over.

 

 

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