FEDs and Money

Are CCs and Debit Cards Money?

Credit cards and debit cards are not money but are actually considered tools or financial instruments that facilitate transactions in which money is exchanged. Both types of cards represent a convenient way to access and spend funds in a bank account (or made available to one via a line of credit). Because they are accessing different types of accounts, they act differently (Chand, n.d.).

First of all, what is money? Money is a medium of exchange, a unit of account, and a store of value (Beattie, 2022). It comes in various forms, such as cash, coins, or digital currency (Chand, n.d.). Debit cards are linked to a bank account, and when you make a transaction using a debit card, the money is directly withdrawn from your account. The transaction is made using the funds you already have, so it can be thought of as an electronic form of cashbut the main point to remember here is that this is money that is yours, not someone elses, and it is drawn directly from your account.

Credit cards, on the other hand, allow you to borrow money from the card issuer (usually a bank) to make a purchase. When you use a credit card, you are basically taking out a short-term loan that you agree to pay back later, often with interest if not paid in full by the due date.

In both cases, the cards themselves are not money, but rather, they represent a means of accessing and using the money in your accounts or through borrowed funds.

When the Fed Makes an Open Market Purchase

When the Fed makes an open market purchase of government securities, the quantity of money will eventually decrease by a fraction of the initial change in the monetary base. This statement is incorrect. When the Federal Reserve (Fed) makes an open market purchase of government securities, the quantity of money will typically increase, not decrease. The statement seems to have confused the impact of an open market purchase with that of an open market sale (Amadeo, 2021).

Open market operations are one of the tools the Fed uses to implement monetary policy. When the Fed purchases government securities (e.g., Treasury bonds) from banks and other financial institutions in the open market, it pays for these securities by crediting the reserve accounts of these institutions. This process increases the monetary base, which consists of currency in circulation and reserves held by banks at the Fed.

An increase in the monetary base leads to an increase in the money supply through the money multiplier effect. The money multiplier is the relationship between the monetary base and the money supply, which depends on the reserve requirement ratio and banks' willingness to lend. When banks have more reserves, they can make more loans, creating new deposits in the process, and thereby expanding the money supply.

Ultimately, this process can be inflationary as well, for if the money supply increases rapidly, prices may rise to offset the sudden tidal wave of cash now in everyones pocket. This is best illustrated in recent history by the various bubbles in markets that have followed the Feds open market operations...

…deposits at the central bank. Reserve requirements act as a safety measure to ensure that banks have enough liquidity to meet their customers' withdrawal demands. When the Fed lowers reserve requirements, banks are required to hold a smaller percentage of their deposits as reserves. This frees up more funds for banks to use for lending to businesses and consumers (Board of Governors of the Federal Reserve System, 2023). Essentially, if the Fed wants to get more money into the market without adding new money to the existing money supply, it can lift reserve restrictions on banks. With more funds available for lending, banks can extend more loans, leading to an increase in the overall money supply, the same as with OMOs and using the discount rate (Board of Governors of the Federal Reserve System, 2023). The increase in the money supply leads to lower interest rates, and lower interest rates attract more businesses and consumers (theoretically). This in turn (theoretically) leads to new economic activity. One problem in all of this is the possibility of zombie companies and zombie consumers simply digging deeper their own graves thanks to easy credit. At some point credit tightens (as is happening now), and the stilts holding up the economy are pulled away.

Thus, when the Fed implements expansionary monetary policy by increasing the money supply, the goal is to stimulate economic growth, reduce unemployment, and avoid deflationary pressures. The trouble is that this policy can also have potential downsides, such as creating inflationary pressures if the economy is already operating near full capacity, or propping up zombies. Neither…