Creature From Jekyll Island by G. Edward

that

exists in the world. Congress, on the other hand, has

access to unlimited funding without having to tell the

voters their taxes are being raised through the process of inflation. If you understand this paragraph, you understand the Federal Reserve System.

MONEY

Now for a more detailed view. There are three general ways in which the Federal Reserve creates fiat money out of debt. One is by making loans to the member banks through what is called the Discount Window. The second is by purchasing Treasury bonds and 194 THE CREATURE FROM JEKYLL ISLAND

other certificates of debt through what is called the Open Market Committee. The third is by changing the so-called reserve ratio that member banks are required to hold. Each method is merely a different path to the same objective: taking in IOUs and converting them into spendable money.

THE DISCOUNT WINDOW

The Discount Window is merely bankers' language for the loan window. When banks run short of money, the Federal Reserve stands ready as the 'bankers' bank' to lend it. There are many reasons for them to need loans. Since they hold 'reserves' of only about one or two per cent of their deposits in vault cash and eight or nine per cent in securities, their operating margin is extremely thin.

It is common for them to experience temporary negative balances caused by unusual customer demand for cash or unusually large clusters of checks all clearing through other banks at the same time.

Sometimes they make bad loans and, when these former 'assets'

are removed from their books, their 'reserves' are also decreased and may, in fact, become negative. Finally, there is the profit motive.

When banks borrow from the Federal Reserve at one interest rate and lend it out at a higher rate, there is an obvious advantage. But that is merely the beginning. When a bank borrows a dollar from the Fed, it becomes a one-dollar reserve. Since the banks are required to keep reserves of only about ten per cent, they actually can loan up to nine dollars for each dollar borrowed.1

Let's take a look at the math. Assume the bank receives $1 million from the Fed at a rate of 8%. The total annual cost, therefore, is $80,000 (.08 X $1,000,000). The bank treats the loan as a cash deposit, which means it becomes the basis for manufacturing an additional $9 million to be lent to its customers. If we assume that it lends that money at 11% interest, its gross return would be $990,000 (.11 X

$9,000,000). Subtract from this the bank's cost of $80,000 plus an appropriate share of its overhead, and we have a net return of about $900,000. In other words, the bank borrows a million and can almost 1. This 10% figure (ten-to-one ratio) is based on averages. The Federal Reserve requires a minimum reserve of 10% on deposits over $46.8 million but only 3% on deposits up to that amount. Deposits in Eurodollars and nonpersonal time deposits require no reserves at all. Reserves consist of vault cash and deposits at the Federal Reserve. See Regulation D; Reserve Requirements of Depository Institutions, Federal Reserve document 12 CFR 204; as amended effective December 22,1992, p. 23.

THE MANDRAKE MECHANISM 213

double it in one year.1 That's leverage! But don't forget the source of that leverage: the manufacture of another $9 million which is added to the nation's money supply.

THE OPEN MARKET OPERATION

The most important method used by the Federal Reserve for the creation of fiat money is the purchase and sale of securities on the open market. But, before jumping into this, a word of warning.

Don't expect what follows to make any sense. Just be prepared to know that this is how they do it.

The trick lies in the use of words and phrases which have technical meanings quite different from what they imply to the average citizen. So keep your eye on the words. They are not meant to explain but to deceive. In spite of first appearances, the process is not complicated. It is just absurd.

THE MANDRAKE MECHANISM: A DETAILED VIEW

Start with...

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GOVERNMENT DEBT |

The federal government adds ink to a piece of paper,

creates impressive designs around the edges, and calls it a bond or Treasury note. It is merely a promise to pay a

specified sum at a specified interest on a specified date.

As we shall see in the following steps, this debt eventu-

ally becomes the foundation for almost the entire

nation's money supply.2 In reality, the government has

created cash, but it doesn't yet look like cash. To convert these IOUs into paper bills and checkbook money is the

function of The Federal Reserve System. To bring about

that transformation, the bond is given to the Fed where it is then classified as a ...

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