Understanding How Modern Money Works, Requires Knowing Reserve Accounting

Someone shared the tweet thread below with me on either Facebook or Twitter (can’t remember) and it’s EXCELLENT. So I’ve recreated it here, as faithfully as possible to the original as I can. I learned stuff and I hope you do too.

To see the original tweet thread, click here.

Tweet Thread About Reserve Accounting Starts Here

1/ If you really want to #LearnMMT, then you need to understand reserve accounting. [THREAD]

You and I have a bank account at a local bank.

The bank (via its corporate headquarters) has a bank account at the central bank (CB). The CB is the BANK’S bank. There is none above it.

2/ Let’s start from our point of view. I have a bank account at Wells Fargo (WF) on Main Street in my town. A bunch of individuals and local business have accounts at this local WF branch. Let’s say there’s a total of $300 million in all the bank accounts at this one branch.

3/ In some other more wealthy town, there’s another local Wells Fargo branch that has a total of $2 billion in bank accounts for all their individual and business accounts.

4/ There are other local Wells Fargo branches in other towns around the country.

5/ Every Wells Fargo branch in the country is managed by Wells Fargo corporate.

6/ In the US, Wells Fargo corporate has a bank account at the CB, the Federal Reserve. WF has about $600 billion in their bank account (according to federalreserve.gov/newsevents/pre…).

You and I call our bank accounts “bank accounts.”

Banks call their CB bank accounts “reserves.”

7/ Every bank in the country has a reserve account at the central bank.

8/ And at the central bank, it’s almost literally a spreadsheet. Before computers, it was a paper ledger.

9/ In the US, money is actually created by the Federal Reserve. But they only do it when the Congress authorizes them to do it (via a bill they wrote, as influenced by lobbyists and big donors, passed into law, signed by the president, and then via the budgetary process…).

10/ But how does the Fed actually create money?

Let’s say Medicare for All was just passed into law. The bill authorizes the creation of a trillion dollars.

Create a new line in the Fed’s spreadsheet

write $1,000,000,000,000 in it

Boom 💥.

A trillion dollars is created.

11/ Now, let’s say that, to implement Medicare for All, the federal government has contracted my company, ABC Construction, to build a new wing onto a hospital. They’re going to pay them $300 million to do so.

They currently have a bank account at TD Bank with $100,000 in it.

12/ The Medicare for All balance is reduced by $300 million,

TD Bank’s reserves are increased by $300 million,

and TD Bank increases ABC Construction’s bank account by $300 million.

This is called “marking up an account.”

13/ If you manage your kids’ allowance in a spreadsheet, to give your 9yr-old $6, you change the $36 to a $42. You just “marked it up.” As far as your kid’s concerned, you are the GOD of money, because you just created $6 with a few clicks of your finger on a computer keyboard.

14/ A child creates money by drawing a bill on a piece of construction paper.

A point is created in a game by ticking the number up on a scoreboard.

If you think for the central bank, that creating money is more difficult or more special than that, you would be wrong.

15/ Here is former Federal Reserve (Fed) Chairman @BenBernanke on 60 minutes in 2009 (at the eight minute mark): “To lend to a bank, we simply use a computer to mark up the size of the the account they have at the Fed.”

16/ Here’s @BenBernanke, testifying to Congress under oath (archive.vn/Rl0TO).

By “not literally,” he simply means that the money is created electronically, not physical paper bills or metallic coins.

17/ Every single federal program, agency, benefit, and employee salary is, and has always been, paid for with created currency.

Including the military. Every soldier salary, every jet, every missle.

18/ Confirmation that every dollar federal spending is and always has been paid for with created currency.

Full unroll of below tweet available on Thread Reader

19/ Every single Social Security benefit is and has always been paid for with created currency.

So Gramom currently has a bank account at Chase Manhattan.

To get her $300 SS benefit, her bank’s reserves are marked up by $300, and then her bank marks up Gramom’s account by $300.

20/ (And, if every Social Security benefit is paid for with created currency…how can it go broke?)

Full unroll of below tweet available on Thread Reader

21/ Accounts can also be marked down. This is what happens when you pay your federal taxes.

Let’s say our company currently has $100,000 in TD Bank, and owes $15,000 in taxes.

They fill out their return and send it with a check to the IRS.

22/ The IRS communicates with the central bank, which communicates with TD Bank.

TD Bank marks down (lowers) the company’s bank account by $15,000, and the central bank lowers TD Bank’s reserves by the same amount.

23/ The tax return is sitting in a filing cabinet (or a folder on a computer). So they know how much the company paid and when they paid it. But they do not “take” that $15,000. Nothing increases by $15,000 on their side.

The money just disappears.

24/ When money is created (marked up) it is born.

When money is taxed back (marked down), it dies.

If it weren’t balanced in this way, the economy would quickly grow out of control. Taxation is a major tool for controlling inflation.

Full unroll of below tweet available on Thread Reader

25/ Last example. I have a bank account at Wells Fargo. My company has a bank account at TD Bank. I get $100 paper paycheck. I deposit it at my local Wells Fargo branch and they tell me the money will arrive in 24 hours.

26/ I currently have $1,000 in my bank account, my company has $100,000 in theirs.

WF communicates this check to the centrol bank, and that money works its way from my company’s bank account, to *their* bank’s reserves, to *my* bank’s reserves, and then into my account.

27/ In the US, about five TRILLION dollars is transferred between banks (from one bank’s reserves to another) every single day. That’s about two quadrillion dollars a year.

Around the same is transferred by each of the CB’s in the UK, the EU, and Japan.

Full unroll of below tweet available on Thread Reader

28/ Note that the CB creates “high powered money,” which does not put people into debt to anyone else – it is DEBT FREE.

Banks (local branches) also create money via loans, but this is very different, in that it puts you immediately into PRIVATE DEBT.Unroll available on Thread Reader

Full unroll of below tweet available on Thread Reader

29/ Economist Scott Fullwiler (@stf18)’s paper on the importance of reserve reserve accounting (and other operational realities) to #MMTmoslereconomics.com/wp-content/pdf…

30/ More on reserve banking with @rohangrey, interviewed by @sdgrumbine of @RealProgressUS. (US centric.)

@DeficitOwls

31/ American economist L. Randall Wray on more details of reserve accounting, interviewed by @sdgrumbine of @RealProgressUS.

@DeficitOwls

32/ Australian economist Phillip Lawn on reserve banking in Australia.

33/

#LearnMMT

To #LearnMMT, here is a good place to get started:

Full unroll of below tweet available on Thread Reader

34/34 Disclaimer: This thread is a simplification but not misleading or dishonest. It basically considers (assuming the US) the Treasury, the Federal Reserve, and all regional Reserves as a single entity. This thread will be updated and fixed as necessary based on feedback.

IMPORTANT: In the spirit of full disclosure…. I (Kevin Carney) did not create this twitter thread. Someone shared it on social media. It is the absolute best explanation of reserve accounting I’ve seen yet, and understanding reserve accounting is critical to understanding how our economy works, which is what MMT describes.

To view the full twitter thread in the original, click here.

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