Black Crawling Systems Archive Release 1.0/Black Crawling Systems Archive Release 1.0 (L0pht Heavy Industries, Inc.)(1997).ISO/tezcat/Financial/Money_and_Myths.txt

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MONEY & MYTHS               Carmen Pirritano   5/93



First let us define what we mean by "money".  Among its other definitions,
money is anything that is acceptable both as payment for goods and
services anywhere in the country, and to governments and banks as payment
for taxes and loans.

Only three things fit this description:
1) Federal Reserves Notes (cash)
2) coins
3) checkbook money

Everyone is, of course, familiar with the first two; they are also
familiar with the last one, although maybe not by that name.  Checkbook
money is circulated via checks - it is the money that banks create for the
following purposes: to pay their expenditures, to make loans, and to make
investments.  Interestingly enough, checkbook money is not legal tender,
only cash and coins are (see 'Your Money - A Review of Money in the US' by
the Federal Reserve Bank of Richmond), but checkbook money is so widely
acceptable that is serves almost as legal tender (virtually everyone has
had at least 1 experience where a vendor would not accept a check - and of
course checks must be endorsed whereas cash and coins obviously are not).

Gold, silver and other types of wealth are not money; they must first be
converted to money in order to be used.  The only place that your wealth
can be legally used to retire a bank debt is bankruptcy court.

How much money is in circulation?  Well, according to Federal Reserve
statistical data, there was $935 billion in the M1 by 3/31/92.  Of that
amount, checkbook money represents about 68%, cash is around 30%, and
coins represent only 2% of the M1.  "When most people think of money, they
think of currency.  Contrary to this popular impression, however,
transaction deposits [checkbook money] are the most significant part of
the money stock." (from the Chicago Fed in 'Modern Money Mechanics')

Now that we have established the types of money in our economy, let us
look at how these moneys are actually created and injected into the money
supply.

First, Federal Reserve Notes

Many myths surround cash.  Among them are the following:
1) The government owns Federal Reserve Notes
2) The government prints them to finance itself
3) The government is responsible for the amount in circulation
4) Federal Reserve Notes do not cost the taxpayer anything
5) Cash increases the money supply through multiple deposits and
withdrawals

1) Federal Reserve Notes are owned lock, stock, and barrel by the 12
privately owned Federal Reserve Banks.  "These notes are produced by the
Bureau of Engraving and Printing and turned over to the Federal Reserve
Banks" ('How Currency Gets Into Circulation'- NY Fed) "Reserve banks 'buy'
new paper money and coins from the Treasury" ('The Federal Reserve Today'
- Richmond Fed) "Federal Reserve Banks pay 2.5 cents for each note
produced by the Bureau" ('Your Money...) Note that this 2.5 cents is per
bill regardless of the denomination - it is the cost of paper, ink and
labor.

2) Now if you still believe that the government prints cash to pay its
bills, then why do we run a deficit every year?  The New York Fed supplies
the answer in 'I Bet You Thought', "The Bureau of Engraving and Printing
... is responsible for printing the nation's currency, but, its orders
come from the twelve Federal Reserve banks, not the president or Congress.
The Reserve banks, not the Treasury, determine how much currency is
printed ... Under this arrangement, the government cannot print more
Federal Reserve notes to pay its bills or reduce its debt."

3) As far as the supply of cash in circulation, it is determined by the
public through their withdrawals, up to a limit.  If a bank is short on
cash and has excess reserves, they can "arrange to draw currency directly
from their reserve accounts at their district Reserve Bank." ('How
Currency...) The public can only withdraw as much cash as the banks have,
and for any bank in particular, this amount is the bank's reserve total.
Banks are required to have reserves equaling only 10% of their transaction
deposits.  If every person who possesses a checking account were to
simultaneously withdraw, say 20% of their money in cash - every bank in
the country would close overnight.

4) All cash is a debt that is owed to the 12 Federal Reserve banks.  Why?
"Before being issued to the public, Federal Reserve notes must be secured
by legally authorized collateral, most of which is in the form of U.S.
government and federal agency securities held by the Federal Reserve
Banks." ('Your Money...) What this means is that for every dollar bill
ever put into circulation, the Fed owns a dollar of interest-earning
government securities.  The sum of money owed to the Fed will always be
greater than the amount of Federal Reserve Notes that they distribute due
to the interest that the securities pay.  Where does the Fed get the money
to buy these securities?  They create the money to buy them - "...the Fed
has no bank deposit of its own. ... when the Federal Reserve buys
government securities, it is by the mere stroke of a pen putting new money
into the banking system." ('Putting It Simply' - Boston Fed)

5) Federal Reserve notes travel from the Fed to a bank's vault, and then
to you.  They are not directly injected into the money supply; instead
they must be "bought" with an equivalent sum of checkbook money.  The
Chicago Fed explains with an example, "Suppose a bank customer cashed a
$100 check ... Bank deposits decline because the customer pays for the
currency with a check on his or her transaction deposit.  ... The public
now has the same volume of money as before, except that more is in the
form of currency and less is in the form of transaction deposits. ...
After ... currency returns to the banks ... the banks gain reserves as 100
percent reserve money" ('M.M.M.') What this means is that in order to get
cash into circulation, "the public ... converts checkbook dollars into
paper currency" ('How Currency...).  The Richmond Fed verifies this in
'Money', "When people want more coin or paper money, they cash checks -
exchanging one form of money, checkbook money, for another, cash."
The cash then assumes the debt status of the checkbook money it
represents.  In this way cash can not increase the money supply through
multiple deposits and withdrawals.

Secondly, coins:

It would be logical to assume that the rules held concerning Federal
Reserve notes apply to coins also. There are exceptions to every rule, and
coins are the exception. For some strange reason, the government has
decided to stand its ground and demand to be fully reimbursed for the
coins they mint.  "Reserve Banks pay the Treasury for coin at face value"
('How Currency...')

This payment is in the form of an increase to the government's checking
account held at the Federal Reserve.  At this point the coins are not even
in circulation yet.  Coins are injected into the economy in the exact same
manner as Federal Reserve notes, thus the physical metal in your pockets
is actually a placeholder for the checkbook money it represents.  The
debt-free nature of coins arise from the one-time credit the government
receives, therefore multiple deposits and withdrawals of coin money will
never increase the amount of debt-free money in circulation.

Lastly, checkbook money:

There is a popular myth that banks lend money from the pool of their
saver's deposits.  The Federal Reserve Bank of New York knows better
(actually best); "Institutions such as the Federal Reserve and commercial
banks create money every day.  Do commercial banks create the money that
they lend?  Yes.  One institution --the commercial bank-- creates new
money --checkbook money-- when it lends." (From 'The Story Of Money') This
is reinforced by the Chicago Fed, "they do not really pay out loans from
the money they receive as deposits ...  What they do when they make loans
is to accept promissory notes in exchange for credits to the borrowers'
transaction accounts." ('M.M.M').  This means that a bank is monetizing
your collateral and not, in any way whatsoever, lending out some other
depositor's money.  If they were then every dollar loaned out would be
backed by several people's tangible assets.  From this we learn that
checkbook money is always bank created money, which is created and
injected into the money supply in one fell swoop.

However, this is only 1/3 of the story of checkbook money; as I stated
earlier banks also make investments for themselves with checkbook money.
In this way the money supply can increase without the need for people to
be granted loans.  But is this amount really significant?  Well according
to the Federal Reserve Statistical Release (H.8) on the assets and
liabilities of domestic banks, the ratio of loans to investments is 7 to
3.  I would venture to say that is a significant number.  Most people have
the mistaken, but understandable, belief that a bank would pay for
investments out of the profits they make via interest charges.  Not so:
the San Francisco Fed in 'Monetary Policy in the United States' state that
"banks and other depository institutions have the power to create new
deposits and either lend them out to customers or use them to purchase
investments".  New deposits can only be created as checkbook money, and
checkbook money gets created through bank reserves.  The Chicago Fed
explains further: "Reserves ... may be used to increase earning assets -
loans and investments".  "Suppose that the demand for loans at some ...
banks is slack.  These banks would then probably purchase securities.  If
the sellers of the securities were customers, the banks would make payment
by crediting the customer's transaction accounts; ...More likely, these
banks would purchase the securities through dealers, paying for them with
checks on themselves or on their reserve accounts".  Do banks wait for a
lull in consumer borrowing before making investment purchases?  No,
"Because excess reserve balances do not earn interest, there is a strong
incentive to convert them into earning assets (loans and investments)"
(all from 'M.M.M') From this we learn that banks create checkbook money
when they wish to make investments, and that a bank's interest earnings
play no part in this (exactly why will be explained shortly).

At this point, before going on to the relationship between bank
expenditures and checkbook money, the concept of 'bank reserves' needs to
be addressed.  What are reserves?  "Currency [cash and coins] held in bank
vaults may be counted as legal reserves as well as deposits (reserve
balances) at the Federal Reserve Banks. ... Reserve balances and vault
cash in banks, however, are not counted as part of the money stock held by
the public." (Chicago Fed in 'M.M.M') The maximum amount of reserves in
the system, at any point in time, is a constant; it is the above
definition plus all the currency in circulation, if it were to be
re-deposited into banks.  This constant can only be changed by the Fed.
The first misconception concerning reserves is this: banks must hold 10%
of all their deposits as reserves.  This is actually 2 misconceptions
rolled up into one.  First of all, reserves are not held against the
various types of savings accounts held by the public; as the SF Fed knows,
"Under the Depository Institutions Deregulation and Monetary Control Act
of 1980, the checkable deposits of all depository institutions are subject
to reserve requirements set by the Federal Reserve within certain ranges.
... in addition, a 3 percent requirement
is placed on so-called 'nonpersonal' time and savings deposits -
those not held by individuals."

The second misconception is the belief that banks take 10% of their
incoming deposits and squirrel them away to satisfy their reserve
requirement.  This simply is not so.  Now how can 10% of a customer's
deposit be put away for reserves given the first quote in the above
paragraph?  This would mean that the money supply would drop 10% upon
every single (transaction account) deposit.  Also the reserves balances of
commercial banks held by the Federal Reserve Banks are currency accounts
(actually currency credit accounts, see 'How Currency...).  Are we to
believe that if you deposited a $1000 paycheck (checkbook money by
definition) that the bank would take $100 of this checkbook money and have
it credited to their Fed reserve balance account.  Impossible!  This
account is for currency only - not checkbook money.  Not to mention the
fact that reserve accounts are held at the Fed and banks can not change
these accounts.  Most importantly, reserves are not a part of a customer's
deposit because reserves are created via a separate process that has
absolutely nothing to do with the public's deposits.  As the SF Fed
states, "The Federal Reserve can change the amount of deposits banks issue
... by altering the amount of reserves available ...

The principal tool the Fed uses ... is open market operations. ... Open
market operations affect nonborrowed reserves - those not provided by the
Fed through loans to depository institutions.  Nonborrowed reserves
typically account for 96 percent or more of total reserves." ('M.P. in the
US') The SF Fed is stating that 96% of every dollar of reserves was
created by the Federal Reserve and given to the banks; the other 4% were
also created by the Fed, but these were loaned to the banks.  Reserves can
only be created by the Fed, and not by banks for the purposes of loans and
investments ("Reserves are unchanged by the loan transactions" 'M.M.M.')
As the final nail in the coffin, consider this errant example: a bank has
$10 million in transaction deposits and $1 million in reserves.  They have
no excess reserves.  Now you wish to transfer $100 from your saving's
account into your checking account.  The bank takes $10 and counts it as
reserves to balance out the $100 increase in transaction accounts.  The
bank now has $10,000,010 in reserves; they have created new reserves.
They have also just broken the rules, "the Fed writes and issues rules of
conduct to implement banking laws." ('The Federal Reserve System in
Action' - Richmond Fed) and the Fed states that only they create new
reserves.  Obviously then "reserves and customer deposits are two distinct
entities." (from a personal letter by Dan M.  Bechter - Vice-President
Federal Reserve Bank of Richmond)

The final piece of the checkbook puzzle is it's most misunderstood one.
Banks have many expenses that they have to keep up with: supplies, real
estate taxes, employee salaries, dividends, interest for savings and CD
accounts ...  Ask anyone and they will tell you that is why banks charge
interest; so that they can pay for these items.  It seems to make sense on
the surface, but it is another myth.  With excess reserves a bank can
create the checkbook money needed for the above expenses.  How does a bank
pay for the above items?  Forgetting interest on savings for the moment, a
bank will issue a bank check for those expenses.  All a bank needs is only
1/10 of the amount available in excess reserves.  As the Chicago Fed
explains, "For individual banks, reserve accounts also serve as working
balances.  Banks may ... draw down these balances by writing checks on
them or by authorizing a debit to them in payment for currency, customer's
checks, or other funds transfers." ('M.M.M.') The Chicago Fed is telling
us that whenever a bank writes a "bank check", the funds behind the check
are coming from the bank's reserves and not from some bank checking
account that holds interest paid to a bank.  A bank check "is a direct
obligation of the issuing bank ... as long as the issuing bank is sound,
the recipient of a cashier's check can be reasonably sure that the check
will be paid. ...  Cashier's checks are frequently referred to as 'bank
checks', a term that applies to treasurer's checks, teller's checks, and
bank money orders.  ... A 'treasurer's check' is issued by a
state-chartered bank, whereas a cashier's check is issued by a national
bank. ... a teller's check is drawn by one bank on another bank." ('Check
Rights' Boston Fed) The only type of account that a bank has with another
bank is a 'correspondent bank' account and this is always a reserve
account (see 'How Currency...).  As far as saving's interest goes, that is
a bank credit to an account which is not affected by reserve requirements.
Of course the bank realizes that this money could be withdrawn as cash or
transferred to checking, which then would affect their reserve position.
What happens if a bank has no excess reserves?  Am I telling you that bank
employees will not get paid then?  No, because banks rarely have reserve
crisis's - for two reasons: 1) The Fed is constantly giving new reserves
to banks - especially to banks that need excess reserves and 2) "The Fed
lends when others won't.  The Federal Reserve is the lender of last
resort, responsible for forestalling national liquidity crises [see point
1] and financial panics.  By lending ... Reserve Banks can help protect
the safety and soundness of the nation's financial system." ('The Federal
Reserve System In Action' by the Richmond Fed).  When the Fed lends, they
lend reserves.  Again, we see that checkbook money pays the bank's bills
and not their interest earnings.

Wait a second, just what purpose does interest earnings serve?  Aren't
bank profits the difference between the interest they earn on loans and
investments and the interest they pay to depositors?  For that to be true,
banks would have to be lending out their depositor's money, and as
previously shown, banks create the funds necessary for all of their
expenditures.  They can not spend interest earnings because every single
dollar paid to a bank reduces the money supply!  There is no interest
around to use.  The New York Fed explains away this misconception in
'Money: master or servant?' , "Do banks extinguish the money paid to them
when borrowers repay their debts?  Yes.  The money paid to commercial
banks goes out of existence and is extinguished out of the money supply.
... our money supply declines as bank credit is repaid." The Staff
Director of the NY Fed's Public Info Dept. verfies this, "If, for example,
the person repays the loan in cash, the removal of cash from circulation
reduces the money supply, and, if the repayment is made with a check, the
reduction in the amount of money in checking accounts reduces the money
supply." (personal letter from Edward I. Steinberg) The following quote is
available in Senate document #23 of the 76th Congress, First session; it
is made by Robert Hemphill who served 8 years as the credit manager for
the Federal Reserve Bank of Atlanta, "If all bank loans were repaid, no
one would have a bank deposit and there would not be a dollar of coin or
currency in circulation." How can a bank's profits be the difference
between the interest they earn and pay out when they do not keep any
interest payments!  Since banks create virtually every dollar in
existence, where is the "profit" for the banking industry going to come
from?  Your interest payment is simply somebody else's bank created
principal.  As far as the purpose these unusable interest earnings serve,
consider this:

1) What a loan repayment does is shift more reserves from required to
excess than were shifted from excess to required when the loan was
originally made.  This enables a bank to use these new excess reserves for
the previously stated purposes.

2) What would happen to the money supply if interest earnings and bank
fees were not destroyed?  It would skyrocket due to the interest-free bank
expenditures made for salaries and the such, and this does not happen.
The destruction of interest and bank fee payments serves as the banking
industry's way of "taxing" their interest-free expenditures out of
circulation, thus leaving us with a M1 that is 98% bank owed debt.

3) If the M1 is 98% bank owed debt, then it is mathematically impossible
to ever repay all the loans.  This guarantees bankruptcy.  Banks then get
to keep your collateral for failing to repay money that they created at no
cost or expense to themselves.

A few quick words on inflation:

Inflation has often been defined as "too many dollars chasing too few
goods".  If you wish to use that argument, then you must state it
properly: Too many bank created debt dollars chasing too few goods.

How is it possible to have "too many dollars" when every dollar is some
form of a bank loan that must be repaid?

The Gross Domestic Product is over $6 trillion dollars, according to the
Federal Reserve.  The M1 is just over $1 trillion.  When was the last time
in this country that the M1 exceeded the GDP, or was even close to it?

A certain percentage of the public must continue borrowing since it is
impossible for everyone to get out of bank owed debt; what do you think
businesses will do with the increased interest costs that they incur?
Pass them off to consumers.


Other References:

Debt Virus        - Dr. Jacques Jaikaran
Federal Reserve Fractional Reserve and interest-free Government
Credit Explained  - Dr. Peter Cook

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